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Then there was one: when companies merge, blending their risk management operations requires planning, foresight and tough choices.

The June takeover of Caesars Entertainment Inc. by Harrah's Entertainment Inc. forged the largest casino operator in the world. Months before the deal was completed, the companies were bringing in consultants to evaluate their separate risk-management programs and report to each team on their findings.

It's all part of the drill in cases like these. For, behind the scenes of mergers and acquisitions, many people work long and hard to make sure all exposures of the newly formed company will be identified and covered well before the transaction becomes final.

"In our situation, it wasn't a case of who had the right program and who had the wrong program," said Lance Ewing, formerly Caesars vice president of risk management and now the man tapped to run the new gambling giant's risk-management operation. "There were many great things that Harrah's had in their risk management department and there were some very, very good things that we did well at Caesars. The idea was how do we put the two of those together in order to make what a new $9 billion dollar company is going to need?"

During the months leading up to a merger, the participating companies will often run on parallel tracks until they reach a definitive insurance policy date, Ewing said. Then a decision must be made on extending the current policy date to meet the new renewal date, he said. "You can prorate certain policies. Hypothetically, one company might have a June 1 renewal and the company being acquired has a Dec. 31 renewal," Ewing said. "What you do is extend from the June 1 to the Dec. 31 renewal and get that extension through the carriers. That's no easy task by any stretch of the imagination."

Then there's the issue of directors and officers insurance. Ewing points out that only some of the board members of the acquired company will transfer to the new board and so there is the need to purchase tail coverage for directors and officers for a certain period "so that if anything resurrects itself, at least that coverage would be there," he said.

Determining What's New

When he was a risk manager for Fleet Boston, William K. Austin went through 15 major mergers. It got so that he created a checklist that he consulted to make sure he covered all the bases before these transactions were finalized. A risk manager must follow the risk management process when integrating risk management and insurance programs, Austin said. "You need to understand loss exposures, the best treatment options for the exposures and then have timely implementation in order to continue best practices for the organization," he said.

As the risk manager of the acquiring organization, Austin first would ask himself the reason for the merger and what effect it might have on his company.

"You have to look at it that way and think in terms of are there going to be new activities that we're going to be entering into, new operations, new products?" Austin said. "In other words, what's the company going to look like as we go forward with this other company being absorbed by us? Are we going to expand services for existing customers? Are we moving into new markets?"

For example, when Fleet bought Bank Boston in October 1999, it meant that Fleet became a world bank overnight. Bank Boston had been a U.S. bank with significant operations in South America and the Far East. So a risk manager in this situation must think in terms of territories, whether domestic, meaning an expansion from one state to another, or international, Austin said. Even with a change in states, he noted, the risk manager must consider the effect of various state laws on such policies as workers' compensation whether it be issues related to self-insurance or procuring coverage from a state fund.

There are other areas that the risk management department should be involved in from the day that a merger is announced, he said. For one, the risk manager of the acquiring company must consider the composition of the surviving entity: Is it an asset purchase or a stock purchase? What will happen to past liabilities? In a stock purchase, they become the responsibility of the acquiring company.

Also, with past liabilities, the risk manager must determine who will handle the closure of any open insurance claims, especially in self-insured programs, he said. "Even more importantly, with the company being acquired, have they adequately reserved for open claims and for IBNR (incurred but not reported), have they accrued on the balance sheet enough reserves for those losses?" Austin asked. "If not, then the acquiring company has to beef up those reserves post-closing date. It has in essence now paid more for that company."

Early Discussions

During a merger, it's important that the risk manager from the acquiring company confer with his counterpart to determine the other company's perception of risk, what model they have been using, whether they have a more conservative posture toward limits and retained losses, and if" they have identified and dealt well with all their exposures, said Austin, now principal and consultant at Austin & Stanovich Risk Managers LLC, Douglas, Mass., and Providence, R.I.

Another good reason for conferring as earl), as possible is to get the measure of the other staff. In a merger, a risk manager will be charged like any other departmental manager with identifying his or her best employees. "Unfortunately, when a merger takes place, especially if there are redundant operations, people are going to be laid off," Austin said. "You want to get an appreciation of the other staff so that as you go forward, the risk unit, much like the rest of the organization, is stronger, not weaker."

However, in the case of the Fleet/Boston Bank merger, Austin couldn't discuss any of these topics with the other risk manager since Fleet regulators imposed a quiet period once the deal was announced. This meant that neither side could contact the other for nearly two months.

But the risk management community is pretty small and friendly, and Austin already knew his counterpart. "In fact, six months before Fleet and Bank Boston announced the merger, he and I were at an unrelated function talking about what we were going to do if the organizations ever came together," Austin said.

With the Harrah's and Caesars merger, it was sometimes difficult to keep each side informed because the Federal Trade Commission considered them competitors to the day the transaction was completed, Ewing said. State gaming requirements also prohibited the companies from sharing certain information, he said.

"That's a little tougher," Ewing said. "You have to be cautious of what can be shared or what can't be shared. So you do as much of your homework up front before that merger and that will make the transition period shorter and a little bit more comfortable for everybody."

Often risk managers involved in these transactions can be too comfortable with their own strategies and programs, Ewing said. That's when an objective third party comes ill handy. During the Fleet/Boston Bank merger, for instance, Austin and his counterpart hired an outside consulting firm to help both risk managers reach decisions on several key coverages. Neither of them knew who would get the risk manager job post-closing, so they needed to work together to make sure the new organization would have the best program in place, taking the best of Fleet and the best of Bank Boston, Austin said.

"We didn't want either Fleet's or Bank Boston's pride of ownership-that being mine or the other risk manager's--to cloud what we thought was the better program moving forward," he said. "So we used an outside party to help us make that decision."

A consulting firm also reviewed how Fleet and Bank Boston handled casualty claims. Each bank used different third-party administrators and needed someone with extensive claim expertise to help decide what would be best practices to follow alter the closing. "We did not want any bias or preconceived ideas to complicate our joint decision-making process," Austin said. "Outsourcing can be a very good way to obtain independence in decision-making so that the organization, even down to the risk level, is stronger post-merger," he said.

The Waiting Game

In the case of some extremely complex mergers, risk managers might be wise in biding their time before making decisive moves. That's the advice of Sheila Small, risk manager for Verizon Communications, who was involved in a merger in 2000 that brought with it some captives.

"The first thing I did was to do nothing,' she said. "I felt I needed to have a better understanding of the risks involved in all the different captives. The ones that we were presented with during the merger were captives that really handled very different types of risk."

One captive, for example, was a reinsurance company which reinsured non-related, third-party business on the open market. Small spent about a year gaining a better understanding of what the risks were with this company and how the payment processes worked. This captive had not written any active premium for 12 to 15 years and essentially was in run-off. Meanwhile, Verizon had its own captive, established in 1995 in Vermont, which was used for the parent company's active business.

In time, Small and colleagues started to take a look at combining the captives. The one with the volatile business had extra surplus that Small wanted to utilize more effectively in the other Vermont captive. But as it turned out, the idea of bringing the captives together proved out of the question.

"We brought in some outside opinions and we realized that because there was so much volatile, third-party business in one of the captives, it didn't make financial sense to combine them," she said. "One of the goals was to not allow this unrelated, very volatile business to bleed into the captive that we use for our ongoing business, to drain our reserves that we needed to handle people's workers' comp and related business. It was very critical that we kept them apart."

But she still wanted to pull out the excess surplus from the captive and use it more effectively in the other captive that was expanding and writing more of the parent company's risks. How to get it?

After studying many scenarios, Small and her staff decided that restructuring offered the best answer. They determined the amount of surplus the captive would need to pass regulatory scrutiny in order to keep its third-party business, and then divided the captive into third-party, unrelated business and related business. The related business kept all of the surplus that Verizon needed. "Then we combined that piece with our ongoing operational captive," she said. The non-related business was formed into a stand-alone captive which can be sold off if Verizon so chooses, Small said.

With merged companies, risk management strategy is likely to change simply because the previous exposures of the acquiring and acquired companies have now changed, Ewing said. "In any merger and acquisition, the philosophy, and even retention levels and deductibles, can be different," he said.

Keypoints

* During a merger, risk managers must examine insurance policy renewal dates, changing board members, new products and markets, open claims and staff deployment.

* Managing captives involved in a merger requires decisions about distribution of capital.

* Other considerations include looking at the risk transfer appetites of the merging companies and making moves to streamline risk management units.
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Title Annotation:Risk Management: Property/Casualty; Caesars Entertainment Inc. acquired by Harrah's Entertainment Inc.
Comment:Then there was one: when companies merge, blending their risk management operations requires planning, foresight and tough choices.(Risk Management: Property/Casualty)(Caesars Entertainment Inc. acquired by Harrah's Entertainment Inc. )
Author:Bowers, Barbara
Publication:Best's Review
Geographic Code:1USA
Date:Aug 1, 2005
Words:1918
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