Buyers Seek Alternative Risk-Financing

Mr. Crouse said the domicile has licensed six risk retention groups, consisting mostly of nonprofit hospitals and other medical groups, all "good, strong programs. We feel comfortable with them or we wouldn't do them," he said.

"We're even getting some support from the Pennsylvania authorities," who believe that "what we're doing and what they're doing is something the industry needs," he said. "I'm getting feedback that these are programs that are going to alleviate some of the problems in Pennsylvania. So that's encouraging."

Mr. Crouse said he expects the insurance market to remain hard for another "two or three years, so it's going to be a major effort just to keep on top of this."

To keep up with the growth, he said the domicile is actively working to fill a few vacant positions. "We're fortunate, and we're doing a good job overseeing what we have and trying to keep our fingers on everything that's happening out there," he said.

Craig Watanabe, captive insurance administrator for the Hawaii Insurance Division, said the state–which has 117 captives to date, 96 of which are active–has licensed 10 captives so far this year.

Clayton Ingram, manager of business development and alternative risk transfer services for the South Carolina Department of Insurance, said the state has so far this year licensed 22 captives versus last year's 12. Mr. Ingram said the state expects to license 30 by year-end. South Carolina has licensed 10 risk retention groups, with medical malpractice "leading the way," he said.

"I predict that med-mal will go on until we get tort reform," Mr. Ingram said. For captives in general, he said, "given no other external factors, the market will stay where it is until probably 2005," barring "the volatility of war or other acts of terrorism, or other things that could change it even further."

What will happen with captives when the insurance market softens? "We don't even know, really, what will develop in the med-mal area," he said. "Everybody that's in it will be in for the short run."

He said that history has shown with both offshore and onshore captives that "during hard markets there is always a spike in nontraditional market vehicles, with captives leading the way."

When the market softens, he added, "you'll see a period where not many are forming, then you'll see another spike in the next hard market." In between, the numbers flatten out, he said, "so a lot of the groups that come into it tend to stay there."

During the last soft market, Mr. Ingram said, captives were shut down or put on hold. "I think they'll see that this is a great alternative. Look at where we are now–in terms of volume, we've got half of the commercial market in some type of an alternative vehicle, and I think that will continue."

He continued that, "this is not a permanent trend, but it's a permanent solution for a lot of insureds."

How should risk managers cope with a difficult renewal season? Mr. Ingram recommended they begin to explore their options before renewal time comes up–six months before, if possible.

"One of the things that we've seen is that people really get in a crunch at renewal time," he said. "That puts everybody in a bind. They either have to renew at the higher rate or lose coverage."

In many cases, he said, the traditional market will continue to be relied on, while "probably in 50 percent of the other cases there's a good reason to explore the alternative market. Now's the time for creativity, and the alternatives are available."

Carl Modecki, president of the Captive Insurance Companies Association in Minneapolis, listed the biggest challenges to risk managers as a continued hard market for coverage and ongoing rate increases. "There is no indication of a leveling off of prices," he said. "Three rating agencies have indicated that they foresee a continuing of rate increases, at least through 2003."

Mr. Modecki said that a meeting with regulators last month indicated that formation of captives is up everywhere.

Now is the time for risk managers to look at captives and other risk-financing alternatives, but they need to be "serious when they call the [captive] management companies," he said. "A lot of [management companies] are just not returning calls anymore" because they have more business than they can handle, he said. "There is going to be an absence of free advice as to whether they should do a captive."

At the heart of the issue, he added, is that "relationships do count. Some major [fronting companies] will be leaving the market–Im not at liberty to say who, but some of the major fronters in the captive market. So continuing relationships are important."

Molly Lambert, president of the Vermont Captive Insurance Companies Association, said that difficulties in renewing, and in some cases not being able to obtain coverage at all, have been "a great motivator" for businesses to look at the alternative risk market or the formation of a captive.

"Most importantly, risk managers should not look at forming a captive as a short-term fix in a hard market," she advised. "This is really a long-term business strategy."

She continued that when a company decides to establish a captive, "it is really looking to get into the insurance business." Once a captive is formed, the organization is no longer sharing the responsibility or simply writing a check to pay a premium. "Maybe the most important question to ask is how important is insurance to the business of the company you are representing," she noted.

Ms. Lambert also recommended finding out if the company is prepared to share in the responsibility of insurance and expend the capital required to set up a captive. A decision to form a captive should include a plan on how it will be used in the long term.

When forming a captive, she agreed that good advice is the key. "The good news is that captive insurance isn't a new idea. It's been tried and tested in Vermont for more than two decades," Ms. Lambert said. "So the management and regulation of captives has risen to a new level of excellence. I think companies can secure very good advice, and they'll hear early whether or not the option is right for them."

Ms. Lambert said VCIA will be offering a seminar, "Understanding the Strategic Advantages of Captives, Regardless of Market Conditions," in November in Washington, D.C. and in December in California. Information about these and other seminars is available on the Web site at www.vcia.com.

Mr. Modecki summed up the current situation: "Its a tough, tough market out there. I dont need to tell your readers that, because they already know. All I can say is that, unfortunately, at the moment I have not heard anyone who has suggested a time frame for a light at the end of the tunnel. That light, at the moment, still looks like a freight train coming towards you."

Reproduced from National Underwriter Property & Casualty/Risk & Benefits Management Edition, November 4, 2002. Copyright 2002 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.