European Companies leaders in application of �Economic Capital�
February 8, 2005 � Insurers are moving ahead � with European businesses leading many areas � in the use of integrated risk and capital management approaches to drive business decisions, according to the third tracking survey of risk and capital management practices among global insurers by the Tillinghast business of Towers Perrin.
The survey of Chief Risk Officers, Chief Financial Officers and Chief Actuaries in large insurance companies around the world revealed that an overwhelming number of respondents (86%) said that risk and capital management is a greater priority today than it was a year ago. A slightly higher relative priority � some 88% � was cited by European companies.
Risk and capital management has become a driver of profitability in the global insurance industry and this is a major contributor to the reassessment of the role of risk management functions, believes Tillinghast. 55% of European respondents said more effective use of capital was a key objective for improving risk management.
In the global study 39% of those companies surveyed were headquartered in Europe, where risk management is high on the corporate agenda the survey shows. Some 69% of European companies already have cross-functional risk management committees compared with 63% globally. And nearly half (48%) of European insurers cite compliance with regulatory changes as a key objective for improving risk management. This is reflected in external communication of risk: half of European companies said they had a separate section in their annual reports devoted to risk management issues.
Ian Farr, Towers Perrin Principal, said: “Europe, together with Asia and Canada, is well advanced in the integration of risk to improve the understanding and communication of risk management through their organisations. For example, European companies have moved away from the traditional ‘risk silo’ approach by setting up cross-functional resource, while slightly less than half of US respondents have done so.”
The survey also identified a major shift in the positioning of the risk management function within insurance organisations, with 39% noting that Chief Risk Officers (CROs) have primary responsibility for risk management, up from just 19% in 2002. Additionally, 40% of CROs now report to the CEO, an increase from 26% in 2002.
Ian Farr continued: “The risk management process is now very real priority issue for senior management. The demands of analysts, investors and burgeoning regulations mean that financial transparency and clear risk strategies are riding high on the corporate agenda.
“More efficient measurement can also improve relative ratings and shareholder value. So the upside to accurate risk measurement is potentially immense.”
Economic Capital Critical to Risk and Capital Management
At the same time, survey respondents acknowledged that the growing success of risk and capital management strategies is contingent upon the industry�s application of Economic Capital (EC), an area in which European insurers appear to be leading the way.
Although an overwhelming majority of respondents said they use (53%), or plan to use (28%) EC to improve risk-based decision making, there are regional differences in the way EC is put into action.
The use of EC by North Americans appears to be focused on a regulatory view of capital, whereas Europeans (52% of those surveyed) are more likely to use economic definitions (e.g mark-to-market or best estimate) of liabilities in their calculations.
Ian Farr added �In Europe, multinational insurers have developed economic capital as a business and performance management tool, aiming to look through local regulatory regimes to the true economics of their business�.
Nearly all (87%) respondents intend to improve their EC calculations and methodology by improving their modelling or measurement capabilities (89%), improving the applications of EC (71%) and extending the risks covered (61%).
There are also significant barriers to continued improvement with EC and its applications, including resource issues (61%), modelling/measurement issues (47%), data or information systems (28%) and complexity of economic capital (21%).
Farr concluded: “There is a considerable amount of work still to be done but sound progress has been made with risk and capital management practices. Those European companies that are driving for best practice will have a real competitive advantage.”
The global survey�s key findings in summary are:
Risk Management has come of age. Insurers are giving risk management increasing attention, high level accountability and clear responsibilities, befitting a legitimate strategic function
Risk Management is ultimately about creating shareholder value. Insurers see the principal objectives for risk and capital management as helping them create and improve shareholder value through better risk-based decision making and capital allocation
Economic Capital (EC) is a key tool that is on the fast track. Economic capital (EC) is becoming an important tool for insurers in guiding risk-based decision making at all levels in their organisation, although the methods for calculating EC are still evolving
Risk and economic capital management are already making a difference. Enhanced risk and capital management approaches have already affected business decisions made by insurers, and they are likely to do so more frequently as their use increases in a wide variety of areas
Quantifying operational risk is a key development area. Respondents expressed low satisfaction with the tools and techniques to measure operational risks. Only 10% are satisfied with their capability to quantify important operational risks. Under a third (29%) report clear roles and responsibilities for modelling and managing these risks (compared to 89% for insurance risk and 72% for market risk).
About Towers Perrin and Tillinghast
Towers Perrin is a global professional services firm that helps organizations around the world improve their performance through effective people, risk and financial management. Through its Tillinghast business, Towers Perrin provides global actuarial and management consulting to insurance and financial services companies and advises other organizations on risk financing and self-insurance. Areas of focus include mergers, acquisitions and restructuring; financial and regulatory reporting; risk, capital and value management; products, markets and distribution; and financial modeling software solutions. The firm�s other businesses are HR Services, which provides human resource consulting and administration services, and Reinsurance, which provides reinsurance intermediary services. Together, these businesses have over 8,000 employees and 78 offices in 76 cities in 24 countries. More information about Tillinghast is available at http://www.towersperrin.com/tillinghast.