Captive start-ups: a practical guide to the first steps

05-08-2016

Captive start-ups: a practical guide to the first steps

Ken Easter

There are a number of points to consider before an organization starts down the captive path, and a feasibility study will help the decision-making, says Benjamin Ford of Fiat Chrysler Automobiles.

Many risk managers have been in this position. They have reached the “brick wall”. The risk finance program has been achieving great results. Benchmarking shows that rates are low, the claims recovery process is optimal, and loss frequency and severity is stable. It begs the question, where do you take the risk management function from that point? How do we differentiate ourselves and show value within our organizations? Is there a unique and creative way to dispel the notion that the risk manager is simply an insurance buyer? For many risk managers and their organizations, the answer is to form a captive insurance company.

There are a number of points to consider before the organization starts down the captive path. As mentioned, claims should be stable and predictable. Enough premium should be at play to make the captive a worthwhile investment for the parent organization. Additionally, the risk manager should also consider whether their organization has the risk appetite and desire for essentially running their own insurance company. This is an important consideration. Forming a captive will change the nature of the risk management department and the organizational approach to risk. Many risk management functions will go from being solely insurance buyers and loss prevention specialists to running an insurance company. If the organization is up for the challenge and the answer is yes, then the next step is the feasibility study. 

“The risk manager must demonstrate that the captive is a strategic financial tool that can be used to achieve organizational objectives.”

The feasibility study represents a critical next step. Some might consider the feasibility analysis a forgone conclusion: they will always recommend formation of the captive. Even if they do lean toward formation, the process enables the risk manager to identify the processes, work streams, and obstacles in the path of formation. The document then becomes a roadmap that can be referred to throughout the entire process.

Depending on the domicile, it may also be advisable at this stage to have an informal conversation with the regulator in the intended domicile. The conversation is an opportunity to present the captive concept and business plan overview, at a very high level, to the regulator and solicit their feedback. This gives the regulator an opportunity to voice any concerns they might have very early in the process saving all parties time and resources in the unlikely event those concerns are insurmountable.

Once the feasibility process is complete, the next step is often to present the results internally to senior executives. If the recommendation is to form the captive, the goal at this stage is to obtain executive buy-in. Keep in mind that you are asking these executives to form a new company. This is a big step for any organization. In order to move forward, the risk management team will need to create executive interest and get agreement around the table during the executive presentation that the captive concept should proceed. Offering a vision of a hyper-efficient risk finance program is not always the answer for them. To gain their attention and support, the risk manager must demonstrate that the captive is a strategic financial tool that can be used to achieve organizational objectives. Careful analysis of organizational objectives and how the captive can support and meet those objectives is worth the time and effort. The captive concept must demonstrate immediate value to the executive team and provide a quick return on their investment. The feasibility study should be designed to support this effort.

Moving through the feasibility study and internal approval process can seem like an entire project in and of itself. Once these milestones are passed, the risk management team still must implement the captive. There is likely to be a tight timeline so adhering to it and managing the cross-functional teams will be critical.

Creation of a captive involves creating an insurance company from the ground up. The risk management team will need to engage a variety of internal and external consultants including: a captive manager to provide the “back office” functions of the insurance company; an actuary to help determine the premiums and projected loss experience; tax advisors regarding premium deductibility and other tax issues; a third party administrator to handle claims; an outside attorney to navigate the domicile’s regulatory framework; and the insurance broker to provide risk management and insurance consultation around the function and design of the captive insurance program.

The number of teams and associated work streams can be daunting. Risk managers will need to manage often competing interests by managing to the overall objective and keeping everything on track. In that regard, someone with project management experience, either internal or external to risk management, is critical to project success. This is the individual that can take charge of the group, manage the tasks and action items, coordinate the status checks, and overall enable the risk management group to bring the captive implementation plan to a successful conclusion. The project manager is often the same individual that coordinated the feasibility study.

If the risk manager and the implementation group follow the feasibility study and overcome the obstacles that are inevitably in the path, the organization will have a high functioning strategic tool that can be used to mitigate risk but also generate revenue. It changes the approach to risk management. The organization is no longer an insurance buyer 100 percent of the time. The organization owns its own risk. Its own financial resources, not those belonging to a third party insurance company, are at risk.

This creates an enormous incentive on the risk management team directing the captive to “get it right”. They will need to work closely with the captive’s board of directors and other stakeholders within the organization and outside it, to ensure that it not only adheres to the business plan but also maintains flexibility to address new risks and capitalize on new opportunities as they present themselves. This leads not only to a high risk environment for the risk management team but also to higher reward prospects for the organization as a whole.


Benjamin Ford is a risk manager with Fiat Chrysler Automobiles in the US. He has a background in corporate risk management, insurance brokerage, and underwriting.


 

 

Fiat Chrysler Automobiles, North America, Benjamin Ford, Insurance, Captives, Insurance, Risk management

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