RISK AND

INSURANCE
RISK
MANAGEMEN
T

Introduction
Unknown future risk and

uncertainty
Risk and uncertainty cause losses

that cause people has to find ways to

control and try to minimize losses.

DEFINITION
As

a systematic approach to identifying,

measuring and controlling risks that can threaten
assets and earnings of oneself, a business or
the organization.

PURPOSE OF RISK
MANAGEMENT
The purpose of risk management

is to enable an organization to
progress toward its goal and
objectives (mission) in the most
direct, efficient, and effective
path

RISK
MANAGEMENT
OBJECTIVES

OBJECTIVES OF RISK
MANAGEMENT
Can be divided into
two major
categories:
Before loss
(pre-loss)
After loss
(post-loss)

OBJECTIVES PRIOR TO A LOSS

Objectives before loss (pre-loss)
Risk management is necessary
before loss happens as:
to reduce or minimized the
impact of the loss if it should
occur
to reduce fear and worry (peace
of mind)
required by law and regulators

OBJECTIVES AFTER A LOSS OCCURS

Survival of organization organization still

able to continue operations

Stability of earnings business operations
do not have to stop and the organizations
can concentrate on their business activities
as usual.
Reduce impact of losses to organization and
society when a loss occurs not only will
the organization suffer but the loss has to
be burdened by society as well. Employees
may have to be retrenched and some
departments may have to be closed down.

RISK MANAGEMENT PROCESS

RISK MANAGEMENT PROCESS

1.
2.
3.
4.
5.

Identifying potential losses

Evaluating potential losses
Examining alternative risk management
techniques
Implementing the risk management
program
Controlling/monitoring the program

IDENTIFYING POTENTIAL LOSSES

Most important process
To develop information on sources of

risks, hazards, risk factors, perils and

exposures to loss
Since it is not easy to identify risks,
everyone in the organization is
responsible to identify loss exposures
It must be a concerted effort from
every level in the organization.

IDENTIFYING POTENTIAL LOSSES

Losses can be classify as:
Direct damage (damage to building)
Indirect damage (loss of profits due

to business interruption)
Liability (court award to 3rd party
since fire was caused by negligence
of the owner of building)
Loss of Key Employees (key
employees such as general
manager/CEO/Researcher)

IDENTIFYING POTENTIAL LOSSES

Risk Identification techniques:
Distribution of questionnaires and

interviews with relevant parties

Analyzing financial statements
(balance sheet, profit and loss
account
Analyzing the flow chart
Observation and personal inspection

EVALUATING POTENTIAL LOSSES

Second step involve evaluation of likelihood of

loss and the impact in terms of frequency and

severity
Frequency referring to the number of times the
loss occurs
Severity referring to the size of loss exposure
Important to evaluate risks so that they can be
categorized based on the degree of risks
Risks can be classified into such as Extremely
High, High, Medium or Low risks.
Different level of risks required different risk
management techniques to be applied

EVALUATING POTENTIAL LOSSES

Identifying and determining the loss

exposures alone is not sufficient

In evaluating the potential losses:
Estimating the frequency and severity
for each type of loss exposure and
ranked it according to their relative
importance. High loss exposure will be
given priority.
Estimating relative frequency and
severity of each loss exposure as the
selection of appropriate technique will
depend on this.

EVALUATING POTENTIAL LOSSES

EXAMINING THE METHODS OF

HANDLING THE LOSS EXPOSURES

Risk

management
techniques can
be classified into
two:
Risk control
Risk financing

RISK CONTROL

Methods seek to alter an organizations

exposure to risk.
Risk control efforts help organization avoid a
risk, prevent loss, lessen the amount of damage
if a loss occurs or reduce undesirable effects of
risk on an organization.
Risk Avoidance
Loss control
Loss prevention
Loss reduction

Separation
Contractual transfer

Risk Avoidance
Risk is proactively avoided or abandoned

after rational consideration.

If someone is afraid of risks, the best way to
deal with it is to avoid it completely.
Example; a manufacturer may stop
production of a defective products to avoid
a lawsuit.
However, some risks are unavoidable
although risk avoidance may be chosen as
an option in handling certain risks, the
exposures of losses cannot be eliminated
entirely.

Loss Control
Loss control is

designed to reduce
both the frequency
and severity of losses
by changing the
characteristics of the
exposure so that it is
more acceptable to
the firm. Divided into:
Loss prevention
Loss reduction

Loss Control
Loss Prevention
Seek to reduce the

number of losses
(frequency) of losses
Is used when the
benefits outweigh the
costs involved.
Either imposed by law or
imposed by companies
and factories to fence
dangerous machinery to
reduce the chances of
employees being injured.

Loss Reduction
Designed to reduce or lower
the severity of losses,
should it occur.
Since some risks are
unavoidable, the other
alternative is to reduce its
impact.
Can be used in two
circumstances: before a
loss, e.g. installation of fire
alarm or after a loss e.g.
salvage efforts in the
restoration of a building
burnt down by fire.

Separation
Involves the dispersal of the firms assets in

several locations instead of confining it to

one major area.
This measure will reduce the impact of
losses should a major disaster occurs.
Example, separation of head quarters and
assembly plant in automobile industry.

Contractual Transfer
Risk transfer mechanism.
Refers to the various

methods other than

insurance by which a pure
risk and its potential
financial consequences
can be transferred to
other party.

Contractual Transfer
Types of contractual transfer
Incorporation
The owner of the company transfers the risks to

corporation by registering the company.

Leasing contracts
An agreement where the owner or landlord transfers
the risks to the tenants
Hedging
An agreement to buy or sell a commodity at a certain
price to avoid losses due to price increase or decrease.
Hold-harmless agreements
An agreement between a retailer and a manufacturer
whereby the later agrees to bear losses due to the
manufacturer of defective products thus relieving the
retailer of any liability.

Contractual Transfer
Advantages
Can transfer potential

losses that are

commercially
uninsurable
Often cost less than
insurance
Potential loss shifted to a
party who is in a better
position to exercise
control

Disadvantages
If the party to whom the

loss is transferred is
unable to pay the loss
the firm is still
responsible
Not necessarily cheaper
than insurance if
discounts are taken into
consideration
Ambiguity in contracts
drafted may not hold in
court.

RISK FINANCING
Methods involving

generating funds to
pay for these
losses:
Retention
Self insurance and
captive insurer
Insurance

Retention
Retention the company will bear the

consequences of the loss

Risk or loss exposed are normally assumed
or retained when their impact and
consequences are not too great or in cases
when or other methods seem feasible.
In an organization, the ability to assume a
risk depends on ones financial ability.

Self insurance & Captive

Insurer
Self insurance implies that the

organization sets up a pool of fund to

retain its loss exposures.
Adequate financial agreement has to be
made in advance of the occurrence of
losses.
The number of loss exposures must be
large enough to ensure the mechanism
of insurance to be operative.

Self insurance & Captive

Insurer

A captive insurance company is an entity to

write insurance arrangement for its parent

company.
The captives parent may be one company,
several companies or an entire industry.

Self insurance & Captive

Insurer
Advantages
Cash flow

advantages
Safe money
Lower expenses
Encourage loss
prevention
Disadvantages
Possible higher
losses
Possible higher
expenses

Insurance
Risk financing method of

transferring the financial

consequences of potential
accidental losses from an insured
firm or family to an insurer
Transferring the risks to another
party involves a contractual
agreement whereby the other party
assumes the risks and is liable for
the loss in the event of loss.

Insurance
In an insurance contract, the

party exposed to the risks (the

proposer/insured) pays the
premium to the insurance
company.
In return, the insurance
company agrees to pay a stated
sum on the happening of certain
risks specified in the contract.

Selection of Risk Management

Techniques
FREQUENCY

SEVERITY
HIGH
LOW

LOW

HIGH

Risk Assumption/retention Loss Prevention

Also:
Also:
Loss prevention and loss
Loss reduction if cost can be
reduction if the cost
justified.
justifies the benefits.
Insurance
Also:
Risk transfer, loss reduction,
loss prevention.

Risk Avoidance:
Also:
Loss prevention and loss
loss reduction is possible

TO DRAW UP AND IMPLEMENT

THE RISK MANAGEMENT
PROGRAM
Once a decision has been in the

selection, the management must select

the best and most cost effective risk
management program
The selection may based of two factors
Financial criteria whether it will affects the

organizations profitability or rate of return.

Non financial criteria whether it affects the
growth of the organization, humanitarian
aspects and legal requirements.

Monitor and control the risk

management program
Evaluation and review are important to the risk
management process for two reasons.
Things change.
Mistakes are sometimes made.

THINGS CHANGE
Solutions that were appropriate in the past may no
longer be appropriate.
New risks emerge and old risks disappear.
MISTAKES ARE MADE
Exposures may be overlooked.
Measures selected to address risks may not have
been the most appropriate