INSURANCE - CHAPTER II : INTRODUCTION TO RISK MANAGEMENT RISK MANAGEMENT TECHNIQUES

When the loss exposures have been identified and the impact has been determined, the next steps is to examine all possible ways to handle it.

Risk management techniques are divided into two (2) main ways :
1. Risk Control

· Risk Avoidance

· Loss Control

* Loss Prevention

* Loss Reduction

· Seperation

· Contractual Transfer

2 )Risk financing

· Retention / Assumption

· Captive Insurer

· Insurance

1 ) Risk Control

- Methods seek to alter an organization’s exposure to risk.

- More specifically, risk control efforts help an 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

- A risk control technique whereby a risk is proactively avoided or abandoned after rational consideration.

Example :

· A manufacturer may cease the production of a defective products to avoid lawsuit. This is the best way to deal with such loss exposures.

· Individuals may avoid occupations that involve a significant chance of death or injuries such as those occupations in the construction works or in military.

- However, some risk are unavoidable. In other words, although risk avoidance may be chosen as an option in handling certain risk, the exposures of losses cannot be eliminated entirely. So, some cases risk avoidance is not practical.

Loss Control

- Designed to reduce both frequency of losses by changing the characteristics of the exposures so that more acceptable to the firm.

· Loss Prevention

- To reduce number of losses of losses.

- This method is selected when the benefits outweight the costs involved.

· Loss Reduction

- To reduce or lower the severity of losses.

Seperation

- Involves dispersal of the firm’s assets in several locations instead of confining it to one major area.

- Reduce impact of losses should a major disaster occurs.

Contractual Transfer

- Risk transfer mechanism other than insurance.

- Refer various methods other than insurance by which a pure risk and its potential financial consequences can be transferred to other party.

Example :

· Incorporation – where the owner of the company transfers the risks to corporation by registering the company.

· Leasing Contracts – agreement where the owner or landlord transfers the risks to the tenants.

· Hedging – agreement to buy or sell a commodity at a certain price to avoid losses due to price increase or decrease.

· Hold-harmless Agreements – agreements between a retailer and manufacturer whereby later agrees to bear losses due to manufacture of defective products thus relieving the retailer of any liability.

2 ) Risk Financing

- Involving generating funds to pay for these losses.

Retention / Assumption

- In some companies losses are retained.

- The company will bear the consequences the loss.

- In organization the ability to assume a risk depends on one’s financial ability.

Example :

· Most students will assume that their books will not be stolen. Should such loss occurs, the students will have to bear the cost of replacing the book.

Self-Insurance And Captive Insurers

- Implies that the organization sets up a pool of fund to retain its loss exposures.

- Number of loss exposures must be large enough to ensure the mechanism of insurance to be operative.

Insurance

- Risk financing methods of transferring financial consequences of potential accidental losses from an insured firm or family to an insurer.

- Used when organization feels that more economical and beneficial to transfer risk to another party.

- Involves contractual agreement whereby the other party assumes the risks and is liable for the loss in the event of loss.

- In an insurance contract the party exposed to the risk pays the premium to the insurance company.

- In return, insurance company agrees to pay a stated sum on the happening of certain risks specified in contract.