Every business organization periodically needs to review the methods it uses to manage risk.
Far too often, companies simply update their property values, project the next year’s sales and payroll figures, update their vehicle schedule and then send out a request for proposal (RFP) for bids that will ensure the lowest insurance bill.
Evaluate your risk exposure
Insurance-based risk transfer is only one component of an effective total risk-management program. Organizations also need to evaluate where they have exposure to loss, the potential for loss in each of those areas and which techniques will help manage and reduce risks in these exposure areas.
When a business develops an RFP that requires bidders to stick to set specifications, it eliminates the value that professional consultants can bring to the risk-management evaluation process.
More worthwhile is a thorough, systematic and disciplined review of a company’s risk-management practices. In the long run, this type of assessment is far more cost-effective than simply seeking bids to match an existing insurance program or shopping for the lowest premium.
Identifying areas of exposure
There are many elements to consider when developing a risk-management approach that best suits your organization. Before you determine how to manage risk, you first must identify specific areas that present potential exposure to loss.
Examples include:
- Property
- Legal
- Liability
- Net worth
Loss frequency and severity
Once you have identified your company’s potential exposure to loss, analyze the impact a loss in each of these areas could have on the profitability or survival of your business.
For each area of exposure identified, determine the likelihood of losses (frequency) and how significantly the loss or losses could affect your company’s finances (severity). The combined likelihood of frequency and severity will help you define solutions to treat each exposure area.
Keep in mind, low frequency and severity of potential exposures present little chance for that area to affect your business financially. But high frequency and severity of potential exposure areas can expose your organization to significant financial loss.
Managing your exposure to loss
Once you have identified your business’s potential frequency and severity of loss, you can evaluate how to treat the exposure. There are many risk-handling techniques a business can implement to contain its overall exposure to financial loss.
- Risk avoidance
- Segregation, separation or duplication
- Risk transfer — insurance vs. noninsurance
- Risk reduction
- Risk prevention
- Risk assumption
Most companies only employ a select few techniques to protect their business. One of the most overused tools is commercial insurance. While insurance is an essential component of any organization’s risk-management plan, it should not be the only technique employed.
Financing your risk
After determining how to manage various exposure areas, you should consider risk-financing methods.
You can choose to retain risk by doing nothing to treat an exposure to loss, or you can limit your risk by assuming a deductible that is comfortable for your management team. You also can transfer your exposure to loss through contractual agreements or by shifting the indemnity responsibility through insurance.
Most important, your organization needs to administer your risk-management program through continued planning, implementation and monitoring.
Managing risk requires careful assessment and planning. By carrying out a detailed analysis of exposure to loss, you can reduce your total cost of risk and prevent loss. A consultant can help you look beyond day-to-day operations and construct a set of well-defined risk-management techniques to secure your business’s financial future.
THOMAS J. WELBOURN, CIC, LIC, CRM is president of the Property Casualty Division of Doeren Mayhew Risk Management LLC, assisting clients in identifying and implementing methods of asset protection. Doeren Mayhew Risk Management, LLC is an affiliate of Doeren Mayhew, providing a wide range of professional services to middle-market companies. Reach Welbourn at [email protected] or (248) 244-3147.
