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Captive insurance firms help fund parents' loss control

Some risk managers use excess capital to reduce exposures

Captive insurance firms help fund parents' loss control

Companies and organizations are looking at their captive insurance programs not only as formal systems to reduce traditional insurance expenses, but also as profit centers that ultimately can reduce risks.

A captive insurance company's profitability usually stems from adequate rates and favorable loss experience, and the captive can deploy capital to the parent through various mechanisms, experts say.

Most commonly, successful self-insurance programs have a dividend strategy in which the captive declares a dividend to the parent. Captives also can loan money back to the parent as an investment or declare a premium holiday for the parent, industry experts say.

Mark L. Hubbard, senior vp of risk management for Loma Linda University Adventist Health Sciences Center in Loma Linda, Calif., has used profits and other financial gains from Loma Linda's self-insurance program to make significant investments to its comprehensive medical simulation center that serves all of the clinical and professional schools on campus, as well as the hospital operations, Mr. Hubbard said.

“In the last three years, we've put about $400,000 into our simulation center, either in terms of capital investments where we've purchased equipment, or in program development, where we've paid staff to develop a curriculum that is specifically targeted to reduce risk.”

The simulation center, which resides within a large facility at Loma Linda, provides in-depth, robust clinical education to staff, allowing for multidisciplinary training and modeling for almost any kind of clinical environment, he said.

“In a simulation environment, we can recreate what would potentially be catastrophic circumstances over and over for someone so, if they are faced with those kinds of events in the future, they are better prepared to respond,” Mr. Hubbard said.

Loma Linda also has supported two educational conferences for clinical leadership focused on patient safety.

“It was a way for us to spend some money on educating our senior leadership, so hopefully through their influence we can effectively reduce risk and improve patient safety,” Mr. Hubbard said.

Most recently, Loma Linda established a budget for grant funding and has set aside $250,000 for researchers, clinical faculty and various departments on the campus to pursue research activities that are focused on patient safety and risk reduction.

Loma Linda also has taken gains from its captive program and created an experience-rating model where participants with favorable loss experience are assigned a premium credit to the allocation of their premium, he said.

While most companies reinvest captive profits in core operations, the use of the proceeds to fund an organization's loss control initiatives is progressive, yet “very few companies do this,” said Les Boughner, executive vp and managing director in Willis North America's captive and consulting practice, in Burlington, Vt.

For many captives, their financial strategy is to break even because profitability creates tax issues, Mr. Boughner said.


“The thing that I find fascinating is that you spend an inordinate amount of time talking about profitability—a dividend creates this tax problem, a loan back creates this tax problem, and you can't do either one without a profitable captive,” Mr. Boughner said. “All these profitable scenarios create tax problems, but they're good problems to have.”

“That's probably the thing that is lacking for a lot of captives, is a dedicated strategy as to what they will do with profits,” Mr. Boughner said.

A successful captive program is accomplished through rate increases, which generally means an organization has loss control and risk management issues, or the losses perform better than expected so that the reserves can be taken back, Mr. Boughner said, noting that self-insurance profits invested in loss control can feed back to a captive's success.

“For a risk management-oriented company, it's a great use of a captive's profitability because you're only building up future profits. I think it's a terrific use to dedicate those funds to improve your loss control,” he said.

Loma Linda's primary source of profits in its self-insurance program has been related “to effective claims management and loss prevention,” Mr. Hubbard said.

Mr. Hubbard noted that the loss control programs are partially funded by the captive and partially by the self-insurance trust, which Loma Linda views as one budget.

Two lines of business are routed through Loma Linda's captive, University Insurance Co. of Vermont, which writes the first layer of excess liability insurance with a self-insurance trust that assumes the primary exposure. The captive also writes a layer of excess workers compensation coverage.

Some captives with excess funds purchase corporate debt from their parent, and many companies are operating their captives to drive profits from internal and external operations said Jason Flaxbeard, senior managing director for Beecher Carlson Insurance Services L.L.C., in Greenwood Village, Colo.

“Most of the captives I'm setting up these days, more than 50%, are actually looking at it as a profit center,” Mr. Flaxbeard said.

Risk managers are looking for lines of business that are peripheral to their core mission statements, which is to control losses and to protect the organization, Mr. Flaxbeard said, noting that many are seeking to capture profit from third parties.

“Most jurisdictions, in the U.S. especially and definitely overseas, will allow you to write business with connected parties. Essentially, you can capture the business of a group with whom you have a contractual relationship,” Mr. Flaxbeard said.

But as market-hardening conditions loom moving forward, retaining capital in the captive, as well as developing strategies to invest, is vital, experts say.

“There's a happy medium in between the two, which is a buffer layer on top of the minimum capital that allows you to increase your premium writings should need arise when a hard market comes,” Mr. Flaxbeard said.

“Part of our strategy in recent years has been to retain more capital in the captive to build up our internal capacity to assume risk in the future,” said Loma Linda's Mr. Hubbard.

“The only caution I would throw out is that I don't think we would want to spend all of the windfall or all of the gains that we received in our program, because I think it's important now in a soft market to establish that rainy day fund that we'll eventually need,” he said.

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