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The changing face of liability and property insurance.

With ability insurance pricing soaring in the United States, Canadian companies that have operations or sales on the other side of the border seek insurance arrangements that recognize that their pure Canadian risks should be priced lower, and that the portion of the risk that is U.S.-based should be in proportion to its size. This is because the differences between the two countries' liability systems are significant. When looking at the top 10 jury awards in the United States and Canada, the difference becomes increasingly pronounced. For instance, the largest award in the United States was $170 million, while the highest in Canada was only $ million.

"It's staggering. It's a different world," said Eckwart Russell, senior vice president at Johnson & Higgins Ltd. in Montreal at a session entitled "Tired of Being Underwritten As a U.S. Risk?" "The loss ratios in Canada indicate that there is a completely different liability system than in the United States," he stated. "However, the spillover of U.S. culture into Canadian liability rating is not irrelevant."

For Canadian risk managers, there are three categories of liability pricing: pure Canadian, U.S. sales and U.S. operations, which should be priced according to their risks. "The exposures that are purely Canadian should be getting the price differentiation they deserve," said Mr. Russell. Since the 1985-86 liability crisis, when premiums increased 10-fold, there has been a steady movement downward.

Pure Canadian liability risk can be priced with greater certainty because there is "more predictability and certainty" in the Canadian legal system. There are many factors influencing the size of the court awards. Mr. Russell said, such as punitive damages, which the Canadian system does not have. Another factor is the greater number of judge trials in Canada, as opposed to more jury trials in the United States, since jury trials tend to result in higher awards. In addition, lawsuit damages due to "pain and suffering" are capped in Canada, and class action lawsuits are not easily done there because there is no mechanism to prefund the expense.

According to Mr. Russell, the U.S. litigation explosion is a result of a number of factors. These include the enticement of contingency fees to lawyers, an entrepreneurial spirit, advertising and "ambulance chasing," and the large number of lawyers operating in the United States.

Property Insurance

The property insurance industry is undergoing a number of changes that will have an influence on the strategies used by risk managers, said Ronald E. Davis, vice president at Arkwright in North York, Ontario. "There are dozens of factors on a micro level that are shaping the industry for the future," he said. These trends, which are being created by the myriad changes occuring in the industry's political, social, economic and technological environments, can be narrowed down to four factors.

The first of these factors in the frequency and severity of recent catastrophes. "Property catastrophe losses have accelerated dramatically since 1988, and the 1992 property catastrophe results of $23 billion were more than three times that of the worst prior year, which was 1989 at $7.4 billion," said Mr. Davis. "And 1993 is shaping up to be another poor year, with record first quarter catastrophe property damage claims of $2.8 billion -- largely from the March blizzard and the World Trade Center bombing." Losses due to the flooding in the U.S. Midwest will equal approximately $10 billion, although a significant portion of the damage is not insured in the commercial market, or not insured at all.

However, the worst may not yet be over: A number of forces may combine to create greater catastrophe exposures in the future, said Mr. Davis. "Over the past 20 to 30 years, a vulnerable new world of beachfront malls, sprawling sunbelt suburbs, large retirement communities and industrial plants has been developed in hurricane-prone coastal areas from Texas to Maine." The result is that 44 million people now live in regions vulnerable to hurricanes. "There is also a growing concern in the industry that an increase in natural disasters is no longer just a deviation from expected weather patterns, but rather an ominous change in the biosphere" that could result in a greater amount and severity of storm activity, said Mr. Davis.

In fact, recent studied lend some scientific credence to the relationship between global warning and the level and severity of storm activity that has contributed to the recent losses that occurred in the United States, Europe and Japan. "Only the future can tell whether there will actually be more frequent severe weather incidents, or if there is just more insured property exposed than ever before," he said.

The second major force affecting the industry is the condition of the catastrophe reinsurance market. "Given the impact of 1992's record level of catastrophic losses, many reinsurers have repositioned themselves within the industry by either reducing their aggregate property exposures, withdrawing from the property catastrophe reinsurance market or exiting from the reinsurance market completely." Mr. Davis explained that the extent of recent losses has resulted in the demise or departure of smaller, less capitalized reinsurers, and has prompted the larger players to "reassess underwriting strategies, find alternative means of retrocessional protection and cap exposures on proportional contracts."

Capacity reductions and coverage restrictions, combined with price increases, have significantly altered the reinsurance market over the least year and a half, said Mr. Davis. "Comparing 1993 to 1992, there is now a significant shift away from London and an increase in both domestic and foreign placements," he said. "New capacity is also being formed, particularly out of Bermuda, and overall there is a net reduction in cost."

Noting that many primary insurers now have substantially greater net retained exposures, Mr. Davis added that many catastrophe coverages are not being filled. "We can anticipate that the current market situation will get even worse in January 1, 1994.

The changing business climate in the global economy represents the third factor influencing the property insurance market. Mr. Davis point out that worldwide, the tight economy has resulted in an increase in plant closures and layoffs, which may increase the risks corporations face. "As a company closes down manufacturing facilities, the nature of its risk changes," he said. For example, the consolidation of facilities can result in higher capacity utilization of plant and equipment. "This can then impact the time or attention that a company pays to preventive maintenance, thereby possibly increasing business interruption exposures." The loss of experienced employees due to layoffs or early retirements can also negatively affect a corporation's loss prevention and control strategies, particularly if these employees have detailed knowledge of machinery or equipment that isn't transferred to remaining employees.

Mr. Davis added that economic pressures in a company can often limit a risk manager's options, forcing him or her to make "less than prudent decisions." In such organizations, "risk management budgets are scrutinized, although skillful negotiations can often result in reduced premiums."

The fourth factor influencing the property insurance market is technology, which, according to Mr. Davis, "may be the vehicle that has the greatest impact on the industry in the future." Acknowledging that the issue is broad and complex, Mr. Davis highlighted two primary areas where technology is likely to have an impact. The first category is information systems, which "will assist insurers, reinsurers and risk managers in analyzing their risks." The second areas involves he ways technology can facilitate administrative functions.

Taking into account these four forces, and the fact that most risk management departments are faced with both personnel and budgetary cutbacks, Mr. Davis stated that today's risk manager must practice strategic risk management to help his or her company meet its objectives. This strategic approach first requires analyzing the various insurers in the marketplace. "There is a need to know a lot about the financial makeup of incumbent or potential insurers." This involves determining where the insurer gets its capacity, how much of its net exposure is retained and the insurer's level of aggregate exposures for natural weather catastophes.

Risk managers also need to establish reliable data bases for determining exposures and loss expectancies, particularly in companies that have a large number of locations or exposures. "Conducting detailed risk assessments for each major location on a regular basis enables the risk manager to confidently educate senior management about the corporation's risk exposures and therefore help sell capital resource allocation to them," he said. "In addition, relating these exposures to the corporation's balance sheet and income statement will get more attention from senior management."
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Title Annotation:Canadian Risk and Insurance Management Society Conference
Publication:Risk Management
Date:Nov 1, 1993
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