– March 30, 2011
Insurance is as much about having the right information at the right time as anything. Whether it’s an underwriting choice to price a risk correctly or a claim decision to when to pay a claim, having the best data available can make or break an organization. Despite this fact, many organizations fail to take advantage of tools and rights available to them prior to making critical business decisions (see our previous post “The Importance of the Pre Bind Claims Review in the Reinsurance Context“).
A reinsurance company looking to bind a new risk, or an excess carrier following the fortunes of a primary, should not leave decision making to what is found on a loss run or in an application. Loss runs can be misleading without an understanding of what is behind them. At Lanzko we recently found an audit where the underlying carrier failed to reserve for expense in what was a well run claims department. In that particular company, expense reserves were handled by actuarial. Our client had not been aware of this and was able to adjust pricing accordingly, avoiding a significant underpricing of the risk.
It is important to understand that most reinsurance or excess contracts allow companies to inspect the organizations they underwrite. If this right is available then why not take advantage of it to learn more information? Data runs can give you a basic overview of a firm’s existing losses, but they will do little to give you an understanding of the underlying organization that created those numbers. To get a complete picture of how a claims department functions one has to go beyond the numbers and conduct a claims department and file review.
Resources, Resources, Resources
Not every account can be reviewed. Whether you in-source or outsource claims reviews, the costs can add up. There are also other things that come to mind when determining when a review is cost effective. If you conduct reviews using claims staff focused on handling claims there is a risk that the time out of the office is not as valuable as the time spent on existing file management. It should also be noted that in-house claims staff may not be properly equipped to understand other parts of the operation they are reviewing.
If you outsource, it may increase your costs and your vendor may not provide enough value for the report they provide. Unfortunately, many companies do not even budget for a review program. It was suggested to me that if you had a $100 million book of business and set a budget of 0.0025% of premium you would be able to conduct an outsourced reviews of your top 15 accounts.
Is 0.0025% of premium a reasonable cost to pay to get better information about the risks you underwrite?
8 reasons when a claims review becomes critical
Whether it’s a resource allocation issue, or just simply enough time, getting to conduct reviews regularly may be difficult. Nonetheless, there are times when a review must be done and should seriously be considered in these situations:
- Account Renewal
- Late, inadequate or infrequent claim reports
- Significant management changes or turnover
- Financial problems with Cedent or Primary
- Loss results are too good to be true
- Unexpected claims in lines of business
- Historically volatile product lines
- Change in company participation
A successful review means going beyond the claims files
Reviewing the highest exposure claims is certainly of value, however it will not give you a complete picture of the organization and their ability to consistently manage claims. High exposure claims are almost always reviewed by various layers of management and are usually well worked up. Despite this, many organizations only choose to review those files that may impact their layer. What about the files that don’t make it to the senior level?
Understanding the process for how claims move through the system is critical to ensuring they are properly reserved and manged. Consistent claims handling comes from an organization that has good process, strong systems, good technical results and an oversight program. When looking at a claims department you need to look at the whole operation to learn more about:
- Organizational overview and structure
- Authority levels
- Management/Staff Experience
- Reserve Management and Expense Control
- Quality, Controls and Compliance
- Best practices
- Spend management (vendors and counsel)
Doing a claims review is not just smart business, it is becoming a requirement
In Europe, new risk management standards are being implemented as part of sweeping regulatory changes contained in Solvency II. As part of these new regulations, companies that rely on others for their claims are going to be more responsible to ensure those third parties are operating effectively. This will effect everyone from reinsurance companies to cover holders to those who outsource claims to third-party administrators. The United Kingdom’s Financial Services Authority (FSA) described it best in a proposed CEO letter about reserve adequacy when they wrote:
[W]e expect firms to take a considered and proportionate approach to the reserve-setting process, and have robust processes in place which adequately capture the risks associated with an increasingly challenging claims environment. We expect such processes to include, as a minimum, the monitoring and assessment of:
- The adequacy of individual case reserves;
- Underlying claims processes;
- The adequacy of data quality; and,
- The reserve projection and selection process.
Claim reviews, if not already being done, will be a requirement in order to truly understand the “underlying claims process” as well as the “adequacy of individual case reserves.” If you are not able to answer these questions you may be subjecting yourself to significant regulatory scrutiny.
Create a process around your process
The importance of these reviews cannot be overstated. But having accepted the fact that you need to do more reviews, make sure you are managing that process properly. Develop a “best practices” guideline for claims reviews which should include:
- When reviews are done and what are triggering events for the reviews (see examples above)
- How are files selected for claim reviews
- Outline different types of reviews with standard objectives
- What department criteria will be reviewed and what claim file criteria will be examined
- Understand who will be doing the reviews (claim handlers may be good at reviewing a claim file but may lack in experience when it comes to other operational aspects of a department)
- Have a standard understandable rating system
- Manage your claim reviews in a central location
- Document the process to be able to respond to inquires from interested parties (regulators and stakeholders)
Even if you decide to outsource your claim reviews, it is important that you ensure your vendors have a documented process to provide consistent reviews and can maintain appropriate records.
When managed correctly, a proper claims review program can save the company from making bad decisions. Given that the costs, relative to the risk, are relatively minor, along with changes in regulation and oversight requirements, failing to make claims reviews a regular part of your organization could be a critical mistake.