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AVENTURA, Fla. -- The shift from traditional risk management to strategic risk financing and enterprise-wide risk management offers numerous opportunities for organizations and their risk managers.
"I believe we have huge opportunities as risk managers to be chief information brokers internally," Douglas G. Hoffman, managing director at New York-based Bankers Trust Co., said during last month's 7th World Captive and Alternative Risk Financing Forum in Aventura, Fla.
In that new role, risk managers can add huge value to their organizations, said Mr. Hoffman, adding, "I think this is the future of risk management."
Speaking as part of a panel offering case studies of their companies' risk financing experiences, Mr. Hoffman suggested captives also will be an important part of advanced approaches to managing a company's risk.
"Captives are key, present a key opportunity," he said. "(They) are not the only answer but present a key opportunity and are part of the answer."
The process must begin by looking at risk in a far broader sense than has previously been the case, Mr. Hoffman suggested, an exercise that must be undertaken with two key objectives: balance sheet protection and earnings protection or smoothing.
Bankers Trust has spent the past five years analyzing its risks, and Mr. Hoffman said the company now appears to be at the point of truly understanding them.
The company's Bermuda-domiciled captive, Long-Tail Risk Insurers Ltd., remains a focal point of the company's risk financing program.
The company's captive strategy for the 1992-1997 period called for determining actuarially derived premiums to be paid by BT to the captive for "uninsurable risks," Mr. Hoffman said. In addition, the captive was critical for selective use of insurance and reinsurance markets and reducing insurer "frictional" costs by retaining "continually increasing amounts of risk."
"First and foremost, we wanted to aggregate and basket certain risk classes," he said.
To move to an advanced risk financing strategy, a company first must find a common language to facilitate measuring risk on an enterprise-wide basis, Mr. Hoffman said.
The method developed at Bankers Trust is Risk Adjusted Return on Capital, or RAROC, which has the advantage of providing a measure of the company's exposure to risk on an annual basis, Mr. Hoffman said.
"Operational risk is hard to measure. . .but we've got to get started," he said.
The risk evaluation information Bankers Trust developed now allows it to go forward and examine blended risk approaches.
Hallmark Cards Inc. is meeting now with brokers to see what sort of modeling techniques or tools exist that might be useful in analyzing the company's exposures, said Richard C. Heydinger, director of risk management services for Kansas City, Mo.-based Hallmark.
Once they've decided on appropriate modeling tools, the company can analyze its risk profile and determine how it might use some of the more advanced risk financing techniques and what new roles Hallmark's Vermont-domiciled captive might play in those programs, Mr. Heydinger said.
Speaking on another panel at the conference examining multiyear/multiline programs, J. Brady Young, president of Alternative Risk Solutions Inc. in Lexington, Mass., noted that the goal of multiyear/multiline programs is to reduce fixed costs and increase stability.
By bundling diverse risks together, such programs also can generate capacity for certain exposures that might otherwise be uninsurable, he said.
Mr. Young added, however, that the multiyear/multiline programs aren't a "panacea" for all of an organization's risk management problems, and require considerable work and commitment to be structured properly.
"Given the amount of work it takes to put one of these together, it is not something that should be taken lightly," said Mr. Young, also noting that "multiyear/multiline programs don't work if you view them as one-night stands."
Thomas M. Regan, director of corporate risk management at Becton Dickinson & Co. in Franklin Lakes, N.J., said the worldwide medical device and diagnostic equipment manufacturer first became interested in strategic risk financing in 1994 and began studying the concept in earnest the next year.
"It was time for what I viewed as a fresh approach," he said. "We like the concept because in our view it helps us manage the risks of the firm differently."
Mr. Regan presented to his company's treasurer a white paper on the concept that discussed a few potential structures.
"Executive education in my view is one of the most important aspects of any undertaking like this," he said. "I felt that this had to be done first. I had to get the buy-in of my management."
The company decided to explore a basket aggregate approach and began an investigation of the approaches taken by peer group companies.
"The hard part in my view is engaging actuaries and really trying to understand what this means," Mr. Regan said. "Assumptions are key," he said, and understanding those assumptions and the data and concepts that go into them is critical.
The actuaries Becton Dickinson hired were directed to review 10 years of traditional loss data and underwriting information. The studies evaluated increased retention levels for each line based on examination of 15,000 Monte Carlo simulations, which simulate random events.
Mr. Regan said the company found no shortage of insurers eager to participate in Becton Dickinson's "first generation concept," which sought to aggregate a number of exposures and also involve the company's Bermuda-domiciled captive in some fashion.
Becton Dickinson's criteria for determining whether to move forward with the plan included obtaining coverage at least as broad as provided under its existing program and preferably improved, a program that provided balance sheet and income protection, and some sort of premium benefit.
Ultimately the company took a pass on its first generation concept when the proposals it received failed to meet its criteria, most notably in that the insurance programs provided no financial benefit to Becton Dickinson when total costs were evaluated.
But the company still likes the concept of an advanced risk financing program and continues its efforts to craft such an approach, this time working with Aon Capital Markets Inc. on a "second generation" concept, Mr. Regan said.
From Becton Dickinson's perspective, the expertise the capital markets group can bring to the process is very different from that brought by an insurance-based group, Mr. Regan said.
"We believe our efforts will bear fruit but when that will happen we don't know," he said.