With increasing health care costs, smaller employers are exploring innovative approaches to fund their employee benefit plans to save money. Risk retention groups (RRGs) or “captives” can generate savings for some larger employers that self insure their plans. Captives are now catching on with smaller employer groups between 25 and 500 employees. Smaller employers are becoming more educated and starting to understand how risk management works with their health plans. By pooling their employees and risk with other employers within a captive, it can be a creative way to save.

Now, smaller employee groups are gaining access to those same cost reduction strategies that were only being provided from larger employers through these risk retention groups, or group captives, says Steve Freeman, president of USI in San Francisco.

“For employers that want to influence their claims and have a direct impact on their total cost, a captive may be a great alternative,” says Freeman. “However, if employers are risk averse and are fine with paying premiums with no underlining data or guarantee of the next renewal, this is not for them.”

Smart Business spoke with Freeman about how a risk retention group can give employers more control and create greater transparency in their health insurance plan.

How does a risk retention group work?

An RRG is a liability insurance company owned by its members, which are employer groups. These captives are now being developed for groups of smaller employers, which allow them to self-fund and to participate in the profits of their stop loss premiums. Variability in smaller groups is higher and predictability is lower, giving smaller employers the opportunity to pull themselves into a larger group to reduce their risks.

For example, a company with 10 employees has a 10 percent chance that claims in a given year will exceed the expected amount by at least 70 percent. With an employer of 100 people, that number falls to 5 percent, and, at 1,000 employees, that risk is less than 1 percent.  By banding together to create a larger pool, smaller companies can reduce their risk.

How can a company get started?

Employers have established these captives with other employers that are typically in the same industry, share similar risk characteristics, or that are located in the same area. If a company is part of an association, it can start there. Because captives are fairly new, the association may not be aware of one, but the employer can ask whether there are any other employer groups of the same size and industry that would be interested in self-funding, and thus starting a captive.

Obviously there are laws governing RRGs since you are creating an insurance company that you are a member of and that you own, so there are risk and reserve requirements. You have to work with someone who understands those laws, how the RRG should be administered and how profits are paid to participating members. It is critical to work with someone who’s done this before and who understands the laws regarding these programs.

How can an RRG help create transparency and lower costs?

The real premise behind the popularity of these programs is that they allow smaller employer groups the ability to pool themselves into a larger group, self insure and obtain data on their claims utilization,  allowing them to influence employee behavior, which drives down health care cost.

Smaller employer groups typically don’t get claims data and have no idea what their underlying claims experience is, so can’t act to influence it. Transparency allows employers to see the actual use of their health plan. For example, the volume of inpatient and outpatient claims, the number of office visits of primary care physicians versus specialists and types of ER visits. If the ER is being overused, you can provide motivation for employees to seek other methods of more efficient and cost-effective care. Employers also can see the types of drugs being used, and whether employees are using brand name drugs versus generics. If there is a high number of individuals with chronic conditions who are not enrolled in disease management programs, an employer can provide incentives to enroll folks, which will improve employee health, productivity and absenteeism rates and lower costs.

At the end of the day, if you can reduce your claims, you will reduce your costs.

How can employers determine if this is right for them?

If employers are looking for short-term cost reduction, a captive isn’t for them. Employers need to have a commitment to the long-term success of the captive. This is not a one-year solution or a short-term view. A captive is not for all small businesses.

It’s all about risk management and being able to manage your claims. The largest piece of insurance premiums — 85 percent — is claims. So if you can impact claims up to a certain level, you can reduce costs.

Within the captive, you may have a 50-person employer that can only take on $20,000 of liability per person, and a 200-lives employer that can take on $100,000. Each employer wants to make sure that the risk corridors are properly set for their risk tolerance, and premiums will be based on the amount of risk that each company adopts. Each employer group is underwritten independently at a different rate, depending on the level of risk it wants to take, demographics and plan design.

As employers seek cost-effective ways to continue offering health care benefits to their employees, RRGs, or captives, are becoming a more attractive option. A captive allows employers to share the cost of their liability for funding their benefits plans by pooling costs with other employers. And by providing transparency, it allows employers to target wellness and disease management programs right for their population, resulting in a healthier work force.

Steve Freeman is president of USI San Francisco. Reach him at (925) 472-6772 or steve.freeman@usi.biz.

Published in Northern California

As retailers consider ways to control cost and increase revenue, many are achieving those goals by creating a captive insurance company.

Captives exist to underwrite the risk of their parent and affiliated companies, and can provide many benefits to retailers, says Adrian Richardson, managing director of Aon Risk Solutions, Global Risk Consulting.

“The concept is not new,” Richardson says. “Companies have had their own insurance companies financing their risks since the early 1900s. The idea was considered alternative then but has become a mainstream part of how insurance programs are put together.”

Smart Business spoke with Richardson and Terry Rodes, a senior vice president with Aon Risk Solutions, about how captive insurance companies can help retailers, as well as those in other industries, control costs and increase revenue.

Why should businesses consider joining or creating a captive insurance company?

Businesses should consider joining or creating a captive because captives can be an efficient methodology to finance their retained loss costs. The first step for a company that is considering moving from a guaranteed cost program is to determine whether it makes sense to retain risk.

Do you have a frequency of losses that is reasonably predictable? If so, it’s unlikely to  make sense for you to dollar swap with the insurance market. Paying $1 in premium and getting, say, 60 cents back from an insurer in paid losses might not be the most efficient way of insuring your risk.

Once you have a captive structure in place, you can build from an initial platform and consider what else to do with that insurance structure. How can you expand the use of the captive to not just simply finance retained loss costs in an efficient manner? How can you start creating some kind of revenue growth?

What are some ways retailers are expanding the use of their captives?

Many companies provide warranties or guarantees to their products. These  might be part of a program in which both administration and risk is assumed by a third party.  The opportunity could exist where these programs can be restructured so your captive insurance company accepts the risks associated with the warranty or guarantee.

If a retailer is using a third-party  warranty company to administer and underwrite the entire program, then there is no risk to the retailer. However, if there is a cost to the customer for the warranty, the retailer may have less control on customer experience and the whole revenue stream. In addition, the risks associated with the revenue stream are transferred to a third-party provider. It could make sense for your captive insurance company to take on that risk, control the program and customer experience more tightly and capture some of the profits being made by the third party.

Another way retailers are expanding the use of their captive insurance company is through the provision of supply chain insurance. Most retailers have several suppliers providing them with materials and goods, and as part of that cost of supply, suppliers have their own insurance programs. In many instances, the programs are smaller than the retailer’s. Retailers are therefore putting together suppliers’ risks programs and financing them through their captive. That method can remove some of the insurance costs to the supplier.

How can you tell if using a captive is the right choice for your company?

There are trigger points. How comfortable are you managing retained loss costs? Are your business’s retained loss costs at a level where you can absorb some of the frictional costs associated with a formal structure?

A captive structure is a formal mechanism to finance these risks. You are creating an entity or becoming part of a legal entity that is financing these risks, so there will be frictional costs associated with it. Understanding frictional costs and whether your retained loss costs are of the size that makes one of these options worth pursuing is a key aspect to this decision.

How can a risk consultant help companies make that decision?

A risk consultant will look at your program design and try to optimize it based on risk transfer costs and analyzing your loss costs. The consultant will do this to find the optimal level between risk transfer and risk retention.

You also should determine the best way to warehouse those retained loss costs. Can the company pay it from revenue? Do you want to set up a formal vehicle to finance those loss costs? Do you have subsidiaries or legal entities that all pay different premiums? Can you consolidate these costs through a single captive structure? These are some of the issues to examine with a risk consultant.

Review your options and the realistic costs. There might be collateral requirements, such as fronting costs. I recommend working with your consultant on a comparative exercise to determine whether a captive insurance company would help you derive the most efficiency in costs.

How can a company determine which type of captive insurance company to use?

There are a spectrum of captive structures, ranging from the wholly owned, single-parent captive in which a single entity owns 100 percent of the risk, through group-owned captives with multiple owners pooling their risk.

The single-parent captive is likely to be for those businesses that have taken the step of risk retention and are already retaining significant loss costs. Their costs are the size that it makes sense for them to create a full, wholly owned captive.

As a baseline, for a single-parent captive, annual operational costs are likely to be in the region of $75,000 to $100,000. You will want to absorb that cost within the financing of your retained loss costs. If your company is not large enough to take frictional costs on board of a single-parent captive, it might be opportune to consider a group captive scenario or perhaps other related structures, such as a cell company.

Adrian Richardson is managing director of Aon Risk Solutions’ Global Risk Consulting. Reach him at adrian. richardson@aon.com or (212) 441-2020.

Published in St. Louis

As retailers consider ways to control cost and increase revenue, many are achieving those goals by creating a captive insurance company.

Captives exist to underwrite the risk of their parent and affiliated companies, and can provide many benefits to retailers, says Adrian Richardson, managing director of Aon Risk Solutions, Global Risk Consulting.

“The concept is not new,” Richardson says. “Companies have had their own insurance companies financing their risks since the early 1900s. The idea was considered alternative then but has become a mainstream part of how insurance programs are put together.”

Smart Business spoke with Richardson and Kevin J. Pastoor, CPCU, managing director of Aon Risk Solutions, about how captive insurance companies can help retailers, as well as those in other industries, control costs and increase revenue.

Why should businesses consider joining or creating a captive insurance company?

Businesses should consider joining or creating a captive because captives can be an efficient methodology to finance their retained loss costs. The first step for a company that is considering moving from a guaranteed cost program is to determine whether it makes sense to retain risk.

Do you have a frequency of losses that is reasonably predictable? If so, it’s unlikely to  make sense for you to dollar swap with the insurance market. Paying $1 in premium and getting, say, 60 cents back from an insurer in paid losses might not be the most efficient way of insuring your risk.

Once you have a captive structure in place, you can build from an initial platform and consider what else to do with that insurance structure. How can you expand the use of the captive to not just simply finance retained loss costs in an efficient manner? How can you start creating some kind of revenue growth?

What are some ways retailers are expanding the use of their captives?

Many companies provide warranties or guarantees to their products. These  might be part of a program in which both administration and risk is assumed by a third party.  The opportunity could exist where these programs can be restructured so your captive insurance company accepts the risks associated with the warranty or guarantee.

If a retailer is using a third-party  warranty company to administer and underwrite the entire program, then there is no risk to the retailer. However, if there is a cost to the customer for the warranty, the retailer may have less control on customer experience and the whole revenue stream. In addition, the risks associated with the revenue stream are transferred to a third-party provider. It could make sense for your captive insurance company to take on that risk, control the program and customer experience more tightly and capture some of the profits being made by the third party.

Another way retailers are expanding the use of their captive insurance company is through the provision of supply chain insurance. Most retailers have several suppliers providing them with materials and goods, and as part of that cost of supply, suppliers have their own insurance programs. In many instances, the programs are smaller than the retailer’s. Retailers are therefore putting together suppliers’ risks programs and financing them through their captive. That method can remove some of the insurance costs to the supplier.

How can you tell if using a captive is the right choice for your company?

There are trigger points. How comfortable are you managing retained loss costs? Are your business’s retained loss costs at a level where you can absorb some of the frictional costs associated with a formal structure?

A captive structure is a formal mechanism to finance these risks. You are creating an entity or becoming part of a legal entity that is financing these risks, so there will be frictional costs associated with it. Understanding frictional costs and whether your retained loss costs are of the size that makes one of these options worth pursuing is a key aspect to this decision.

How can a risk consultant help companies make that decision?

A risk consultant will look at your program design and try to optimize it based on risk transfer costs and analyzing your loss costs. The consultant will do this to find the optimal level between risk transfer and risk retention.

You also should determine the best way to warehouse those retained loss costs. Can the company pay it from revenue? Do you want to set up a formal vehicle to finance those loss costs? Do you have subsidiaries or legal entities that all pay different premiums? Can you consolidate these costs through a single captive structure? These are some of the issues to examine with a risk consultant.

Review your options and the realistic costs. There might be collateral requirements, such as fronting costs. I recommend working with your consultant on a comparative exercise to determine whether a captive insurance company would help you derive the most efficiency in costs.

How can a company determine which type of captive insurance company to use?

There are a spectrum of captive structures, ranging from the wholly owned, single-parent captive in which a single entity owns 100 percent of the risk, through group-owned captives with multiple owners pooling their risk.

The single-parent captive is likely to be for those businesses that have taken the step of risk retention and are already retaining significant loss costs. Their costs are the size that it makes sense for them to create a full, wholly owned captive.

As a baseline, for a single-parent captive, annual operational costs are likely to be in the region of $75,000 to $100,000. You will want to absorb that cost within the financing of your retained loss costs. If your company is not large enough to take frictional costs on board of a single-parent captive, it might be opportune to consider a group captive scenario or perhaps other related structures, such as a cell company.

Adrian Richardson is managing director of Aon Risk Solutions’ Global Risk Consulting. Reach him at adrian. richardson@aon.com or (212) 441-2020. Kevin J. Pastoor, CPCU, is managing director of Aon Risk Solutions. Reach him at kevin.pastoor@aon.com or (248) 936-5346.

Published in Detroit