Insurance: A Magic Pot of Money?

The insurance industry will likely face the largest catastrophe loss in history as a result of the terrorist attacks of the World Trade Center, the Pentagon, and the plane crash in Pennsylvania on September 11, 2001. While the total of early loss estimates released by insurance companies could be up to $70 billion, the industry's true exposure remains to be determined. No single event of this magnitude has ever occurred, nor has a single event ever struck so many lines of insurance at the same time.

An age-old problem with the availability of insurance coverage is the fact that many buyers of insurance are uneducated as to the theory of insurance. Many buyers view insurance as a "magic pot of money." Unfortunately, there is no magic pot of money, but there is insurance and it is one of the tools we use to spread risk.

Prior to September 11, 2001, the insurance market was already experiencing significant changes. For several years, commercial insurance rates decreased because insurers were fighting for market share, and we experienced what is known as a "soft" market. A soft market is where prices decrease every year, and we could get many additional options and coverages added to our insurance policies. It was a great time for risk managers, and we took as much advantage as possible.

However, it was not a good time for the insurance companies; they kept losing money. In one year, the average insurer paid out $1.07 for every $1.00 taken in. The next year was considerably worse. Several insurance companies became insolvent. At the same time, there was an increase in the number of litigated claims which equated to increased defense costs. The jury awards began to skyrocket, and medical costs experienced double-digit increases yearly, too. The overall result of all of this: higher premiums, higher deductibles/self insured retentions, less coverage, and less capacity. What is insurance capacity?

The definition of capacity is: "The largest amount of insurance or reinsurance available from a company or from the market in general." In other words, think of capacity as "products" that the insurance company can sell. The stock market comes into this equation, too. Insurance companies invest the money received from premiums into the stock market. When the stock market does well, the insurance company makes a profit on its investment and has more capacity (or "products" to sell). Conversely, when the stock market does poorly, the insurance company loses money on its investment. And when an insurance company loses money in the stock market, it has less capacity, so the basic economic issue of supply and demand comes into play. Rising insurance costs have been among the ripple effects of the terrorists attacks. Although the Maricopa County Community College District suffered no direct losses from these incidents, the hardening insurance market and the events of September 11, 2001 have dramatically impacted our insurance premiums. Our insurance renewal was November 1, 2001, and overall, our insurance premiums increased 57%. (The average rate increases for other public entities/higher education institutions was 35-50%.) Insurance premiums are allocated to each college, so this increase will impact our colleges' individual budgets. Also, the District is self-insured for the first $100,000 of each liability claim and the first $25,000 of each property claim, and these self-insured claims also impact each college's budget.

What can we do to keep our future insurance increases to a minimum? Insurance underwriters have told us that they are looking for insureds that can show evidence of a comprehensive risk management program.

Risk is a major concern for higher education institutions. No higher education institution should fail to assess its risks because of the sense that it has insufficient resources. The risk assessment process can be implemented in stages, beginning with areas of operations that historically produce the greatest risks, or can be implemented throughout the organization. What's important is not how the process is undertaken but that it is undertaken, and once begun, is systematically continued. Risk management should be thoroughly integrated into every level of our culture and operations. Every employee, from top to bottom, should understand our risks and his or her role in preventing and controlling potential losses. If we successfully integrate risk management into our organizational structure and daily operations, then we will protect our ability to fulfill our mission, keep our insurance premiums in line, and not have to rely on any magic pot of money.

Published in the Fall 2001 Edition of In Brief