Fluctuation of currency affects recoverables from reinsurers. A watchful eye has to maintained on this. Insurers and reinsurers resort to some degree of matching of liability with assets in the same currency.

For insurers operating in territories exposed to natural catastrophes, it is vital to maintain an up-to-date record of their net aggregate sum insured exposures in each zone of a single catastrophe. In this area, professional reinsurers provide good help. They themselves need accurate information as a part of their risk management exercise. Errors in this area can be fatal for an insurer if overall claims from an event far exceed the total excess of loss protection secured. Companies with small capital located in catastrophe territories have a very difficult job of securing adequate cover at affordable price. Similarly accumulation of insured risks in warehouses, ports, ships, shopping complexes and markets too pose challenges of a similar kind. Information technology is perhaps the most important tool to address these challenging issues. Penalty for a mistake is often insolvency.

Insurance is basically a financial exercise. In times of adverse claims experience, the income from investments provides some cover. There is thus a need to maximise investment income as well. The management has to have a sound policy in achieving a balance between risk and yield without losing sight of liquidity. Insurance companies can manage these only by gradually developing expertise in investment. As discussed earlier, premium is the main or possibly the only source from which all expenditure has to be met. In many markets clients pay premiums long after the risk is insured. In India and Malaysia premium has to be paid in advance or secured by guarantee. In these markets therefore insurers are free from a major source of risk viz., bad debts. Delayed collection of premium depresses cash flow and hence income from investments. Clearly this risk factor is a matter of grave concern to managements of insurance companies. Even companies with reasonable claims ratio can wobble under the weight of large recoverables. This risk cannot be transferred, but can be managed to a great extent. Late payment facility is often used as a marketing tool to divert clients from one insurer to another. A risky procedure and tendency to do this has to be curbed.

Insurance is a business heavily dependent on human resources. The quality of service provided through staff at all levels determines the image of an insurer. Staff have to be constantly trained to develop and upgrade their skills in underwriting, claims handling, investment, informed marketing, etc. Errors can cause serious problems. It can therefore be said that an insurer cannot afford to take the risk of having incompetent staff. Risk management in this regard has to be of a very high standard.

Management expenses constitute a significant percentage of the premium. Strict controls and efficient utilisation of resources to contain expenses within limits assumed in rating would be important and in some instances vital. It is a business involving volatility in results as claims are not a factor under control. Expenses are controllable and they have to be controlled.

The most serious and the most prevalent threat is competition which drives prices down to technically unacceptable levels. Improving efficiency through systems and training in technical and managerial skills would enable an insurer to achieve savings which in turn can be reflected in the rates quoted to clients. In other words competition then need not be such a threat. For the efficient, it can be the opportunity.

Change in insurance regulations can cause problems. For instance, tightening of investment norms, solvency margins etc. can strain the resources of an insurer. How can one manage the risk? Prudent practices of the past years would have enabled sound insurers to increase free reserves which would come to their rescue in such circumstances. One has to anticipate and take preventive measures rather than take a ostrich-like approach during good times.

Changes in legislation relating to insurance or taxation or relating to say, motor third party liability can have major consequences. For example if liability limits are raised and insurers are not permitted to increase premium rates, marginal insurers may have to close down. Others would find their profitability reduced much to the disappointment of shareholders. These risks are not easily manageable. A consistent policy of increasing the free reserves and the capital would provide a cushion. Timely changes in strategies for marketing and reinsurance would help. The same would also apply to inflation and reduction of interest rates which diminish investment income. Prudent practices over a period rather than knee-jerk responses would ameliorate the problems.

Each factor mentioned above deserves serious attention of the top management. The single measure which would enable management to address most issues is the setting up of an up to date and time-bound Management Information System (MIS). A well designed MIS would act as an Early Warning System (EWS) for the management and the board who can take remedial steps before things get out of hand. Without a comprehensive MIS, any effort to manage risks in an insurance operation would only provide sporadic and partial solutions.

International rating agencies use several test ratios in their assessment of insurance companies. Increasingly, regulatory authorities in many countries are also adopting stricter norms to monitor the health of the insurance industry under their supervision. Many of these are discussed in several fora and, it should not be difficult for managements of insurance companies to adopt and use these in structuring their MIS. Periodic submission of focussed data to the boards would constitute a sound risk management measure.

Copyright © 1997 Indian Express Newspapers (Bombay) Ltd.