Structuring sound (re)insurance solutions

Structured (re)insurance solutions can help captives retain new classes of risk, such as cyber. AXA XL’s Austin Su discusses how these vehicles can be used to their best advantage.

Captives have often been used to underwrite traditional lines of business such as Property and high frequency/low severity casualty, marine risks, etc. Others leverage captives for hard-to-place exposures or for specific business objectives.

Today’s emerging and growing risks presents more possibilities for captive usage. As cyber has emerged as one of the most challenging business risks, risk managers are looking to utilize captives, along with traditional capacity, as part of their overall risk management strategy.

Austin Su, Head of Structured Risk Solutions Americas at AXA XL, explains how a structured (re)insurance solution can help buyers of cyber coverage to take higher retentions and manage risk volatility within their captives.

Q: Can you give an example of the challenge facing clients/risk managers with respect to Cyber risk? And how captive can play a role?

Austin Su: As a result of cyber market dynamics, (e.g., underwriting tightening, capacity/appetite limitation and rate increases) many clients are considering increasing their cyber program’s self-insured retention (SIR), or they are being forced to increase the SIR due to escalating claim costs, premium increases, or coverage limits. Risk managers are looking to captives as a potential source to alleviate the resulting larger SIR imposed to the parent and affiliate companies.

Q: A captive can be a useful tool for transferring the cyber SIR risk from the business units, but what are some of the considerations for risk managers?

Risk managers have a few top concerns that dominate the conversation. The following are the more prevalent concerns:

-Primarily, they are keen to manage the volatility sustained by the captive, especially the low-frequency, high-severity nature of cyber risk.

Asking for more capital to be directed into the captive when a large loss occurs – this is always a tough discussion to have with the CFO/Treasurer.

Using capital efficiently – should risks be funded with higher capital or with reinsurance premium dollars?

-More stability and certainty in the premium budget as well as coverage for a multi-year period.

Q: How can a structured solution help with these concerns?

Structured (re)insurance programs can offer multi-year coverage and protection against risk volatility over time. For example, a three to five year reinsurance contract with a term aggregate limit and premiums with profit and risk sharing elements in place could help the insured avoid annual risk spike from large, individual events or aggregate losses. Also, such a structure could potentially enable a captive to reduce or redeploy some of the capital it would need to hold without such multi-year, structured reinsurance support.

Another important feature of structured (re)insurance is the multi-year policy period, which provides captive owners with a degree of insulation from the traditional insurance market pricing cycle, and locks in capacity from underwriters.

Also, a structured solution can give captive owners certainty about the maximum premium payable in any one year while limiting the level of retention on its balance sheet. This eliminates the year-on-year fluctuations that can occur in shorter term contracts. This also gives captive clients the ability to better plan – their volatility and market fluctuations are reduced, and they are able to share in the performance and profitability of the contract over time. The captive is rewarded for favorable loss experience by essentially building up an experience balance over a period of time which can be commuted back to the client at the end of the term of the contract.

To summarize, a structured reinsurance program can provide the following benefits to captives:

Certainty in premium budget & coverage over a multi-year period

Better volatility management over a multi-year period

Reward for a positive loss experience

Capital efficiency

Q: Can structured solution help if the client does not have a captive?

Yes. We work with the insured to issue a structured solution that covers their losses and expenses within the SIR layer on a reimbursement basis. We work with the client to settle on coverage wording that matches the primary coverage to the extent possible and where it fits within AXA XL’s guidelines and risk appetite.

Again, the structured solution is more suitable for clients who have the capability to retain large cyber SIR, but who would like to manage such volatility over a multi-year period.

Q: Any final points that organizations should keep in mind?

Structured (re)insurance is a strong example of how underwriters can work in true partnership with clients, focusing on a common goal of managing claims and risk volatility over a multi-year period. That includes cyber risk, which is a growing threat for many clients.

The buyer’s ability to reduce the potential volatility within pricing and limits in any given year means they can better plan ahead and secure the most accurate level of coverage needed for the increasing threat that cyber poses as well as other risks that are emerging.

As buyers look to captives to cover a greater variety of non-traditional risks, structured (re)insurance can help to enable that evolution with more certainty.