Posted on 21 Feb 2013 by Neilson
Global insurance executives across all business segments say a strong correlation is emerging between advances in the development of their enterprise risk management (ERM) framework and enhanced business performance. According to a recent ERM insurance survey conducted by global professional services company Towers Watson, insurers experiencing the greatest incremental gains from their ERM techniques are also the furthest along in embedding ERM into their business. This is particularly evident with regard to insurers' risk-based information, risk culture, risk appetite process and model usage in risk-based decisions.
The survey findings revealed that the most prominent business changes resulting from North American insurers' ERM programs have all steadily increased since Towers Watson last conducted its ERM insurance survey in 2010. North American insurers ranked product pricing (51% versus 39% in 2010), risk strategy (48% versus 38% in 2010) and reinsurance strategy (44% versus 34% in 2010) as the areas of their business most impacted by their evolving ERM programs.
"Our research provides insights into the challenges companies are up against with effective ERM implementation. Companies able to overcome these obstacles and continue investing in targeted areas of ERM are much better positioned to improve business performance, stakeholder value and long-term success," said Mark Scanlon, Life ERM practice leader for the Americas, Towers Watson.
The survey results underscored three fundamental ways ERM adds value for insurers:
- Helping to avoid surprises that may threaten a company's franchise value
- Better informing important risk/return business decisions in areas such as capital management, strategic planning, capital allocation and risk transfer
- Reducing insurers' capital requirements through enhanced regulator or rating agency perception (insurers demonstrating strong ERM practices and risk-based decision making to rating agencies can potentially derive benefits to their rating and capital requirements)
"Compared to 2010, insurers are increasingly looking beyond ERM as a means to mitigate downside risk and are seeing the upside value of ERM as a way to enhance risk/return decisions," said Eric Simpson, Property & Casualty ERM practice leader for the Americas, Towers Watson. "Going forward, this trend will accelerate as stochastic economic capital modeling becomes more prevalent and accessible among large and small insurers to support risk/reward decision making."
North American Highlights
North American insurers included risk monitoring and reporting (52%), risk appetite (38%), and risk limits and controls (37%) as their top improvement priorities, followed by economic capital calculation capability (36%). According to the survey, insurers have made good progress with their risk appetite statements; however, they indicated that significant work remains to make certain their companies' risk appetite process is embedded in the business. Importantly, less than one-half (46%) of North American participants have an analytical framework in place to ensure that their top-down risk appetite statements align with bottom-up risk limits in the business.
"Many insurers are finding it difficult to operationalize their risk appetite statements. Consequently, companies are beginning to realize the importance of closely aligning their enterprise tolerances with strategic planning and key risk limits, and validating them through economic capital modeling," said Simpson. "The environment is such that rating agencies are scrutinizing insurers' risk appetite statements, particularly those that exhibit higher-than-expected earnings and capital volatility."
Embedding Risk Culture
Respondents agreed the development of a strong risk culture is pivotal for ERM's success. Insurers in North America rated risk culture (82%) as the most important aspect of their ERM end-state vision, dominating all other factors. Engaging with senior management about aspects of building a robust risk culture has been well established by most insurers, while broader communication and education to foster a common understanding of risk management throughout the organization are top priorities in 2013.
"Linking performance incentives for executives to risk management metrics remain a very powerful method to embed ERM in an organization's culture," said Scanlon. "However, our survey indicates little momentum on this front, with more insurers placing higher priority on further developing their ERM framework, and making greater use of economic capital and risk appetite in risk-based decisions before activating risk-based performance measures."
Advancing Economic Capital Modeling
While insurers recognized the importance of economic capital modeling, they said its potential has not yet been realized, and it faces significant implementation challenges. Nearly three-fifths (56%) of North American respondents said methodology was the main challenge in calculating economic capital.
Roughly three-fifths of North American respondents also cited reliability of modeled results (58%) and management buy-in (57%) as the top two challenges for embedding the use of economic capital in business decision making.
"Insurers not as far along in implementing ERM don't have to jump straight into economic capital modeling," said Scanlon. "Many find value in starting with scenario-based approaches that lead to stochastic modeling approaches. Similarly, companies can start by building on existing statutory or GAAP modeling and then bridge the gap with metrics they have traditionally used to manage the company while they take more time to implement an economic capital approach."
Over two-thirds (68%) of North American respondents indicated their company will be required by regulators, or intend themselves, to perform an Own Risk and Solvency Assessment (ORSA). When asked whether key aspects of the ORSA would generate significant or moderate benefits, over 81% said they would. However, insurers still have a long way to go before completing an ORSA. Only a minority of companies have outlined a road map for their project plan (20%), educated their boards on new oversight responsibilities (17%) or produced an initial ORSA "dry run" report (12%).
"Many insurers see ORSA dry runs as a valuable exercise to align key risk management processes and address key gaps within their ERM framework before the regulatory deadline," said Simpson. "Successful companies will efficiently leverage their limited resources and focus their ORSA efforts on high-impact areas led by key risk mitigation, operationalizing risk appetite and embedding economic capital modeling into risk-based decisions."
About the Survey
Over 539 senior insurance executives across the world participated in the seventh biennial Global ERM Survey, which was conducted during the second half of 2012. In particular, there were 200 North American respondents from Bermuda, Canada and the U.S. spanning risk, finance and actuarial disciplines across all lines of business, including property & casualty (42%), life insurance (26%), reinsurance (16%), multiline insurers (11%) and other (5%).
About Towers Watson
Towers Watson (NYSE, NASDAQ: TW) is a leading global professional services company that helps organizations improve performance through effective people, risk and financial management. The company offers solutions in the areas of benefits, talent management, rewards, and risk and capital management. Towers Watson has 14,000 associates around the world and is located on the web at towerswatson.com.