European Risk Managers, Industry Face New and Not so New Challenges

FERMA conference highlights growing importance of risk management in complex global business environment

The insurance industry’s “traditional model” has become outdated and is so abstruse that the industry’s ability to compete is being jeopardized.

European risk managers face the same challenges as their colleagues around the world. They’re called upon to deal with some new, and not so new, challenges, including regulations, terrorism risk, climate change and its effects, as well as the increasingly complex nature of global business, along with issues particular to the European Union.

Enterprise risk management, and its effect on corporate culture, is one such challenge, said Marie-Gemma Dequae, president of the Federation of European Risk Management Associations (FERMA), at the fifth bi-annual Forum in Geneva late last year.

“Enterprise risk management [ERM] is playing a more important role in setting priorities and giving guidance to operational risk management,” Dequae said.

FERMA, like the EU itself, has grown. From the original six members who attended the first Forum in Berlin in 1999, it now has 15, as Bulgaria’s BRIMA, Poland’s POLRISK and Finland’s FinnRma, joined in 2007. Slovakia and Turkey are waiting in the wings.

FERMA has become a player in consultations on insurance, financial and risk management issues in Europe. It drafted a response to the European Commission’s report on business insurance practices within the EU’s 25 member countries (See IJ Web site Sept. 26). The EC’s report raises questions of unfair competition in two areas: 1) premium “alignment” in reinsurance and “coinsurance;” and 2) the lack of transparency in broker-carrier remuneration.

The EC also questioned whether the insurance industry’s exemption from otherwise applicable anti-competition regulations, which it has had since 2003, should be continued. They are scheduled to expire in 2010.

In many ways FERMA’s actions are similar to Risk and Insurance Management Society (RIMS) in the United States. EC committees frequently ask the organization for its views on matters of public interest, which, Dequae said, “has brought politics in Brussels to a different level. The EC is used to having us inform them of what to expect from companies and brokers on matters that concern them.”

Stephen Carver, an international business consultant and engineer, laid out a chilling example of how risk management should not be conducted, during his keynote presentation on NASA’s failures to heed obvious warnings that led directly to the destruction of the space shuttles Challenger and Columbia. From his extensive analysis of the disasters, both could have been prevented, if political and economic considerations had not been given priority over sound risk management. In both cases, once clear warnings were ignored the chance of “catastrophic system failure” was 100 percent. Fourteen astronauts died as a result.

Complex risks facing global organizations

Carver’s presentation led into a discussion of the increasingly complex types of risk that large global organizations face every day.

Gary Steel, the head of Human Resources for ABB, the international construction and engineering firm, stressed the overall nature of those risks. ABB operates all over the world with 114,000 employees. He noted that political, security, health and safety, social, ethical and human rights concerns, must all be considered in constructing a risk management strategy to deal with them.

Maurizio Micale, corporate risk and management director of Switzerland’s ST Microelectronics, noted the insurance industry’s “traditional model” has become outdated and is so abstruse that the industry’s ability to compete is being jeopardized. Micale described the procedures ST had taken to acquire coverage, but on a simplified, and far more efficient basis.

James Nicholson, Willis UK managing director, observed that some of the complications arise from the differing rules and regulations in different countries. But he also agreed that “anyone from a non-insurance background finds the industry way too complicated. It doesn’t respond to our client’s needs. We spend more time explaining [to clients] how it works than we do listening to their needs.”

Zurich’s Geoff Riddell, CEO of Global Corporate, didn’t disagree, describing the industry’s “massive distribution costs” as totally inefficient. Competition is already taking advantage of those inefficiencies, as company risk managers seek better and more responsive solutions to their needs, which frequently bypass the insurance industry. More standardization, more innovation, more cooperation, more transparency, and above all more leadership in seeking solutions, all offer hope, but implementing them will prove difficult, he said.

“The danger is complacency,” said Nicholson. “The industry is becoming less and less relevant, as the lines between brokers, insurers and banks become more and more blurred. What we [the industry] need to do is to get ahead of the changes, rather than just react to them.”

Climate Change, Terrorism Risks

Although a dwindling number of people still deny that the world’s climate is changing, some scientists who have studied the phenomenon have no doubts. Dr. Peter Hoeppe, head of GeoRisk Research and Environmental Management at Munich Re, has been doing so for years. “It [climate change] is a fact of life,” he said, “and our task is to learn how to deal with it.”

Doing that is more complex than most people realize, Hoeppe said. He pointed out that more and more people live in vulnerable areas, especially seacoasts and flood plains, there’s more insurance in force, and property values have risen. When combined with the increasing violence and frequency of extreme weather events — hurricanes, typhoons, blizzards, windstorms, tornadoes, floods and droughts — exposures increase. They may reach a point where even huge reinsurers like Munich Re can’t cover them, Hoeppe added.

Greenhouse gasses are playing a major role in warming the world, Hoeppe said. He pointed out that the concentration of atmospheric carbon dioxide (CO2) in the atmosphere is currently at the highest level it has been in more than 650,000 years.

Terrorism also remains high on the list of risk managers’ concerns. George Moss, managing director of Crawford and Co. in the UK, gave a blunt description of the threat. “Today’s terrorists have no regard for their own lives, let alone anybody else’s. Their goal is murder.” He contrasted this state of mind with earlier attacks in the UK, carried out principally by the IRA, where the main target was property and some advance notice was usually given. “There are no warnings,” Moss said, “and they can strike anywhere, anytime.”

The UK has faced the problem for years, and has established Pool Re to cover at least the economic consequences of terrorist acts. Pool Re CEO George Atkins explained that it’s a “private mutual reinsurer, set up in 1993.” It covers only damages to commercial property, and is funded by contributions as a percentage of premium from insurers based both in the UK, or who do business there. Although it’s voluntary, once an insurer signs up for it, all of its commercial property polices are covered. This prevents Pool Re from taking on only the highest level risks. So far claims payments have been made from accumulated premiums and the funds earned from investing them, but, if necessary, Pool Re is fully backed by the Treasury Department, i.e. the British government.

When it comes to emerging risks, Dr. Annabelle Hett, Swiss Re’s head of Emerging Risk Management, stressed that the failure to heed “early warning signs,” or to dismiss them, is almost always a mistake. For instance, she noted that the dangers of asbestos were known as early as 1906, when some 50 French workers who had handled it extensively, all died within a short period of time.

The insurance community faces a conundrum, however, when it comes to emerging risks. A failure to exclude them means that they are de facto included in policy coverage, but excluding them “raises a red flag,” said Hett. “The goal should be to minimize surprises,” Hett concluded. “By protecting our clients’ balance sheet, we protect our clients.”

Broker-carrier Negotiations

The final plenary session at the Forum featured a free for all between brokers — Willis and Aon — and carriers — AXA, XL, Swiss Re and Markel — moderated by Herbert Fromme, editor of the Financial Times Deutschland.

The topics ranged from why London’s insurers seem to be neglecting Europe (it’s a mature market and better growth opportunities are to be found elsewhere) to how brokers should be compensated. Sarah Turvill, the chairman of Willis International, indicated that “insurers seem to be willing to pay more money for enhanced services.” The clients, who ultimately pay, are apparently also interested in obtaining better services. She advocates a 2.5 percent surcharge, which met with decidedly mixed reactions.

“Rates should be based on value and services,” said XL Insurance CEO Clive Tobin. Essentially higher payments are only justified if the broker has done something to “add value” to the policy, he noted.

Swiss Re’s Head of Corporate Clients Nick Beck said that while “in general companies are against undifferentiated commissions, it’s different when a price is established based on the value of the services provided.”

At this point Fromme observed that a business model based on services might no longer be an ideal one, if you couldn’t establish what those services were and how much they might be worth. The brokers generally defended their business models, but admitted that they would need to adapt them.

Although no overall agreement was reached, it became apparent that negotiations between clients, insurers and brokers are going to become more frequent, and more transparent. Payments — by commissions or otherwise — are going to have to be explained and agreed to. Two years from now, when the next FERMA Forum is scheduled in Prague, the debate will probably still be going on, but by then things might be a little clearer.

Topics Catastrophe Carriers Agencies Legislation Europe Market Risk Management Human Resources