Using Actuarial Reports to Help Manage Risk

Carly Rowland


December 3, 2018

actuarial reports

Actuarial reports are often a financial reporting requirement for companies that self-insure or have large deductible programs. For captives, an actuarial report may be necessary depending on the location of the domicile. Beyond financial reporting, however, an actuarial report can provide a wealth of valuable information for the rest of the organization. By understanding how the actuarial process works and the meaning behind report figures, risk management professionals and C-suite executives can gain additional insights into a company’s risk profile that may benefit the company’s bottom line.

Gaining a Deeper Understanding

If the reader knows how to read the results, an actuarial report can offer more than just the unpaid claim liability balance sheet line item needed for financial statements. The report can also help the reader understand how a company’s risk is changing and offer insight about why. The movement in liability, whether increasing or decreasing, may not necessarily be an indicator of recent loss experience.

For instance, an increase in liability could not only be caused by unfavorable loss development, but also by recent large exposure growth, an increase in retention or the timing of payments. If a program is new, the liability will continue to increase regardless of loss experience until the program’s payments are similar to new exposures earned each year. Thus, it is more appropriate to look at how ultimate losses have changed.

Selected ultimate losses represent point estimates within a wide range of reasonable outcomes. Even with the most sophisticated modeling, selected ultimate losses will not match actual ultimate losses exactly for a given policy year and changes between the two should be expected. An actuary’s underlying objectives are to have losses reflect current risk and future expected payments. Ideally, selected ultimate losses are stable in total over time—for example, increases for some policy years may be offset by decreases in other years. The actuary’s ability to keep total estimated losses stable depends on a company’s consistent risk management and claims handling, as well as providing the actuary with projected exposures that do not significantly differ from actual exposures.

Stability also depends on a company’s risk appetite and whether the risk strategy is conservative or aggressive. An aggressive risk strategy will have less “cushion” built into the estimates, resulting in a higher likelihood that estimates will increase if losses end up being worse than expected compared to a conservative risk strategy. Ultimate losses can be tailored to align with the company’s risk appetite and business strategy. Contingency margins are also a great tool for those interested in reserving for additional levels of potential risk. Management will often want to know how results will change if adverse loss experience emerges. Actuaries and risk managers should look at the estimates to see if there is room to absorb one or two future large losses.

It is also valuable to understand how an actuarial analysis might be influenced by its intended purpose. For example, a study performed by a broker may be aggressive (with little room to absorb a large loss) in order to obtain lower premium quotes. It is beneficial to have an objective view independent from brokers, auditors and captive managers to ensure unbiased results that best align with a company’s strategy.

Tracking Program Performance

Beyond financial reporting, actuarial reports provide a wealth of supporting data to risk managers looking to track the performance of new program initiatives and provide supporting evidence to the C-suite. Actual-to-expected loss comparisons are a clear and concise way to compare current experience to historical or industry experience, helping gauge the current condition of new program initiatives.

Reconciliations of changes in liability and projected losses can provide more detail by assigning deviations to measurable drivers such as claim experience, payments and program size. This is especially beneficial when explaining changes from prior analyses to the C-suite.

Additionally, the cost per exposure trend is a strong indicator of whether risk management initiatives are making an impact. Frequency and severity trends can take this one step further by detailing whether those initiatives are affecting the number of claims or the cost per claim. The ability to monitor analytical metrics over time is a valuable way to watch for any signs of emerging adverse loss experience. For example, a program may see improvement in the beginning of a new safety initiative, but eventually return to the original level if the safety message is not continually emphasized.

While not typically provided in a standard actuarial report, there are additional advanced analytics that can be provided by an actuary that may help reduce current and future insurance costs. A retention analysis can help determine whether current insurance coverage is adequate and explore the cost/benefit relationship of various retention levels. Using a company’s historical data (assuming it is credible), this analysis enables a company to capitalize on its own prior experience instead of industry averages. Furthermore, accident-year results can be compared to prior premium quotes (if available) to quantify savings over guaranteed cost coverage.

Another tool available to risk managers is an allocation analysis, which can identify business units that may benefit from additional safety resources. Allocations also support risk managers when charging liabilities back to business units to ensure that each business unit has “skin in the game.” As a result, allocations can help control losses, which in turn can reduce premiums.

Like allocations, safety analyses allow risk managers to understand where losses are coming from, geographically or by business function. Not only can they provide insight into losses by specific business unit or division, but they can also provide insight into the frequency and severity of various causes and types of losses. Benchmarking—both industry-wide and internally—is a useful tool to monitor performance. Management can compare the differences in cost between territories or classes to those implied by industry rates. A plant in California with 50% higher loss experience compared to a plant in Tennessee may still be doing well if the industry rates indicate California costs should be 100% higher. An actuary can help management understand the differences.

Lastly, predictive modeling can help companies further understand their current and future risks. One of the goals of predictive analytics is to improve the allocation of resources to claims that have the potential for a significant increase in cost. This is especially useful for workers compensation liability, where high severity claims tend to have low frequency. Risk managers and their actuaries can gain insight into new claims, such as predicted severity, predicted frequency of certain loss types, probability of key characteristics (such as future surgery), and probability of future litigation.

Enhancing Risk Management

An actuarial report allows companies to do much more than just meet financial reporting requirements. If the information is presented in a way that is easy to understand, an actuarial report can answer common risk management questions by tracking performance and evaluating whether management efforts are improving loss experience. By taking a closer look at the actuarial report, companies can help optimize available risk management resources and provide a transparent view of the process, facilitating conversations that can lead to better sharing of information and identification of any additional analyses that could aid in the improvement of a risk management program or the presentation of information to the C-suite.
Carly Rowland, FCAS, MAAA, is a consulting actuary at Milliman.