30 May 2013Actuarial & underwriting

Attentive to a fault

Workers’ compensation is a regular feature of the captive line-up, but what exactly makes it such a good fit for those considering the captive option? One of the leading reasons is the predictable nature of the line, according to Scott Penwell, partner at Rhoads and Sinon. As he explained: “If you have five years of credible loss history, you can pretty much predict what losses you will face in future.”

By adding workers’ comp into their captive, parents can proactively affect losses through aggressive loss control and claims management. Captives help to raise awareness of exposures and have the potential to play a leading role in educating the parent in its efforts to drive down workers’ comp claims and costs. And due to its relatively predictable nature compared with more catastrophic exposures, “workers’ comp is probably the leading risk to consider running through your captive”, he said.

Pamela Popp, executive vice president at Western Litigation, spoke in a similar vein, stating that “control over the frequency and severity of claims” was a leading driver behind opting to run the line through a captive or risk retention group. Tony Bibbings, senior vice president at Artex Risk Solutions, said that running a captive requires the parent to audit its risk management decisions annually, with the process helping to highlight whether you have paid sufficient premium, “what loss costs will be after they fully develop, how much the associated allocated loss adjustment expenses will be, how long you can expect payout to be and how much investment income can be earned on retained premium”.

Without this knowledge, parents simply pay a premium to their insurer without gaining insights into their loss exposures and what can be done to drive down claims. Captives enable parents to exploit the advantage, “whether that advantage is quantitative or improving claims handling to be a better employer”, said Bibbings. Driving down workers’ compensation claims is all about timely and active engagement with people who have been injured. Employing a captive can make the process an integral part of the parent company’s response.

This chimes with Popp’s thinking: exposures aren’t simply a financial issue, they are also an opportunity to change company culture around workers’ comp. “You are talking about your own workforce. Handling claims in a professional and timely manner is essential to improving how employees and employers view claims.”

Running workers’ comp through your captive presents a significant opportunity to drive down costs at the parent. As Bibbings explained, according to figures from the Reinsurance Association of America “the average expense ratio of the large reinsurance companies reporting for the fourth quarter of 2012 was 30.1 percent. To the extent the owner of a captive can direct the related premium to its own insurance subsidiary, some of the expense can be reduced or captured in-house”. Not all expenses associated with insurance operations can be controlled or reduced by the captive, but by running such lines through an entity intrinsically linked to the parent, there are opportunities to improve— and reduce expense—in the delivery of service.

Opting for a captive also informs your excess carrier or reinsurer “that you are willing to accept more responsibility for losses, enabling more flexibility in claims handling, and certainly within the retention”, said Bibbing. Enabling more flexibility in claims handling is an important consideration when you are dealing with the claims of your own employees, he added. “There is value in being allowed to handle injured employees the way you want rather than how the insurance company would like.”

The early bird ...

Handling claims through a captive can also help to foster greater dialogue concerning claims. “Workers’ comp claims are generally not spoken about openly. Employees often feel embarrassed and frustrated by the process, while employers can feel frustrated and unduly worried about claims.” By taking a more holistic approach to claims routed through a captive, Popp suggests parents can help to reduce such concerns in the claims process. By enabling the parent to be hands-on, captives can enable companies to head off some of the issues associated with disputes over workers’ comp. “Any claims can result in adverse relations. It is therefore better for company culture to deal with such concerns promptly,” said Popp.

"By running the line through a captive, knowledge of workers' comp exposures can be overlaid with insights from general and professional liability to build up a comprehensive picture of risk."

Penwell concurred that “getting in early, working with insureds and getting them back to work is critical, as any open claim is not a good claim”. Popp added that when considering workers’ comp, “return to work is critical”. As she explained: “One of the most expensive areas of workers’ comp is having your workers out on medical leave. Not only are you paying their medical bills, but you are paying for someone else to do their jobs.” By getting workers back into work quickly and engaging with them in order to head off any issues, companies can drive down medical costs and reduce the chances of employees opting to pursue litigation against the company.

As Popp explained, individuals most often pursue litigation “when they feel as though they have been deserted by their employer. And when they feel disconnected and frustrated, they end up turning to lawyers as the only advocate for their concerns”. If companies can deal proactively with workers’ comp claims, the chances of matters going to court are drastically reduced. Again, captives can play a key role in promoting company-wide enterprise risk management programmes that help reduce exposures and lead return to work schemes that will help drive down workers’ comp exposures and claims.

“Although they involve application, return to work programmes provide companies with the opportunity to achieve significant return on investment,” said Popp, with captives well positioned to be able to monitor and understand the benefits of such initiatives.

Captives enable companies to have a better view of their risks, introducing proactive measures in order to avoid claims. As Popp explained “prevention is always less expensive than claims response”. Without a captive examining its loss exposures, a company will often not take a sufficiently proactive approach, only responding when claims occur, she said. Captives help instil a more forward-thinking approach to such exposures.

Furthermore, by running the line through a captive, knowledge of workers’ comp exposures can be overlaid with insights from general and professional liability to build up a comprehensive picture of risk, said Popp. “Very often it is the same employees who have at-risk behaviour and are involved in losses across all those coverages.” Armed with that knowledge, the parent can move to implement safety measures anddrive down potential exposures associated with particular individuals or classes of workers.

A captive also has the chance to play a leading role in educating the parent about industry-wide losses and changes in technology and infrastructure that will affect the parent company. As Popp explained: “Businesses can be rather reactive and focused upon daily operations.Sometimes it takes someone to step back from a strategic perspective and look at the risks over the long term and not wait for them to come up to address them.” A captive can fulfil exactly that role.

TPAs: worth considering

An integral part of driving down cost in workers’ comp is the claims process, with captives having the option to outsource the function or—if they are of sufficient size—to retain it in-house. For Popp, a third party administrator (TPA) is often the best option, able to bring significant experience to bear when settling claims. “TPAs can inform you about issues and trends in workers’ comp, even before you see those claims,” she said.

There are, however, advantages associated with the captive being active in the claims process. “Bringing the claims function in-house gives you greater control over your claims,” said Penwell, with the captive communicating with injured workers, doctors and lawyers to help expedite and drive down the cost of claims. Going through a TPA, you don’t have that extra level of communication that might just prove telling in cases of workers’ comp losses. Injured workers faced by aggressive TPAs have the potential to turn litigious.

Popp agreed that it makes sense to manage high frequency, low severity claims in-house, but said that for claims that fall into the catastrophic category they “can really benefit from the outside expertise that can be delivered by a TPA. Even in a big programme it is worth considering what to handle in-house and what to send to a TPA”.

Nevertheless, many captives simply don’t have the resources to bring the claims function in-house. In such instances it makes sense to outsource the claims function, but it remains important that the captive pays close attention to the performance of its TPA. “It’s too easy for TPAs to just sit on a claim,” said Penwell. When claims administrators are dealing with an excessive workload “each file gets less attention and with claims, attention is key”. Captives will need to monitor the work of their TPAs with care, he added.

Working longer

Claims handling is likely to become all the more pressing as medical costs rise and the global workforce ages. As Penwell made clear: “The biggest driver of workers’ comp expenses is medical cost.” He said that the industry is working closely with companies, employees and medical groups in an effort to drive down rapidly increasing costs, but is seems likely that an ageing population andrising medical bills are unavoidable issues facing the workers’ comp industry going forward.

“People are working longer because they can’t afford to retire,” said Popp, in a damning indictment of our likely future. Businesses will have to respond to an ageing workforce, she said, introducing working conditions that will enable an older workforce to continue in employment. At the same time, there will be rising medical costs associated with treating claims associated with that older demographic.

The key to driving down medical costs will be heading off acute care by being proactive, said Popp. “If we can keep people from the emergency room through preventive measures such as tai chi classes and the provision of healthy food in the workplace” loss exposure could be dramatically reduced.

The Patient Protection and Affordable Care Act is looking to instil just such a holistic approach in the provision of healthcare, encouraging firms and healthcare providers to head off chronic illnesses in the early stages through the introduction of positive health measures. The act may yet drive down some of the costs associated with medical provision, but it seems likely that workers’ comp—and its associated claims—will have to adjust to an ageing workforce, at their desks for a few years longer.