How Much Is Enough?

Setting Standards for

Capital Adequacy

Laura Cisi, The Clorox Company,

VP – Global Risk Management

Brian Mercer, Integro Insurance

Brokers, Managing Principal

Scot Sterenberg, Marsh Captive

Solutions, Hawaii Office Head

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Standards for Capital Adequacy

• Why Is This Important?

• General Considerations

• Understanding Key Areas Of Risk

• Case Study

• Questions?

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Why is This Important?“Expect the best, plan for the worst” unknown

• Adequacy of capital is the most important measure of an insurance company

• Insurance is a promise to pay

• Ability to pay matters

• Proper exercise of fiduciary responsibilities of directors & officers

• Cost of capital

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General Consideration: Ensuring Capital Adequacy• Consider multiple views and perspectives

• Seek independent advice

• Appropriately document

• Robust infrastructure sufficiently flexible to accommodate changing tests

• Regularly maintain and update and assess independently

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• Regulators– Policyholder– Liquidation

• Management– Owner– Going concern

• Insureds/Investors• Rating agency

General Consideration: Capital Adequacy Audience

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Understanding Key Areas of Risk

• Four Primary Areas of Risk– Reserve Risk– Underwriting Risk– Asset Risk– General Operational Risk

• Other Areas of Risk– Reinsurance Risk– Management Risk– External Risks

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• How much is enough?

• Alternative uses for capital

• Balancing fiduciary duty of ensuring solvency of the captive with capital needs of the parent

Understanding Key Areas of Risk:Considerations for the Board

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Case Study: The Clorox Company

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The Clorox CompanyMore Than 100 Years of Making Everyday Life Better, Every day

• Leading multinational manufacturer and marketer of consumer and professional products

• Approx. 8,000 employees worldwide

• Fiscal year 2016 sales of $5.8 billion

• More than 80 percent of the company’s sales are generated from brands that hold the No. 1 or No. 2 market share positions in their categories

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History of Chesapeake

• Formed in 1997

• Objective: To utilize Chesapeake (captive) as a risk financing vehicle for self-insured liabilities

• Coverage: Original portfolio included products liability, general liability, auto liability and workers’ compensation. At various times property, crime and product recall have been added/subtracted

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Analysis of Existing Capital

• Total assets against outstanding liabilities

• Benchmark against regulatory ratios

1. Reserves to Capital is a monitor of overall captive solvency• The lower the reserves-to-capital ratio, the more solvent the

captive.• Standard of 3:1 is typically desired (i.e. $1 of capital for every $3 of

outstanding liabilities).

2. Premium to Capital is a monitor useful in situations when a captive is growing quickly • A low premium-to-capital ratio indicates that the captive has the

ability to support new limits, grow and/or assume higher risk retentions.

• The minimum standard is a maximum of $1 of premium for every $1 of surplus capital.

3. Risk Retention illustrates the amount of volatility the captive is exposed to from a single loss and whether the surplus capital is sufficient to continue operations following a fast-paying loss• The minimum standard permits single occurrence retentions equal

to 50% of surplus capital.

Total Assets

Components of Total Assets

Total Liabilities Excess Capital/Surplus

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Actuarial Assessment:• The actuary provides for the

potential of adverse loss experience through confidence level indications

• The following chart illustrates the decline in surplus capital if losses were to develop to various adverse confidence levels

• Based on the analysis, even in the most adverse conditions shown, if aggregated losses were to develop to a 95% confidence level, Chesapeake would still have sufficient surplus

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Analysis of Existing Capital

Benchmarking: Chesapeake has a greater relative amount of surplus across all ratios and in comparison to all benchmarks

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Differentiating Between Solvency and Liquidity

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5+

$10.0M$11.0M

$12.5M

$15.0M

Expected

70% CL

80% CL

90% CL

Differentiating Between Solvency and Liquidity

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5+

$10.0M$11.0M

$12.5M

$15.0M

Expected

70% CL

80% CL

90% CL

$11.5M$12.5M

$14.0M

$16.5M 90% CL

80% CL

70% CL

Expected

Overall captive solvency is a long-term concern and is typically assured by independent, third-party estimates.

Scenarios Scenario Description

Scenario #1

California Earthquake

A 7.0 earthquake occurs with an epicenter in Oakland. Personnel impact includes 20 lost

lives with an additional 80 injuries. Plant closure resulting in three months lost revenue

(Business Interruption), in addition to significant property loss.

Scenario #2

Employee Auto Accident

An employee is driving two colleagues and causes an accident involving a bus. Multiple

injuries occur within both vehicles.

Scenario #3

Class Action Products Liability

with Product Recall

A product is alleged to damage related household furnishing and fixtures, causing

customers significant repair/replacement cost. Potential reputational damage is

significant, causing a stock drop and decreased sales of related products. Multiple

Products Liability suits are brought against Clorox and recall is also triggered.

Scenario #4

New Risk / Increased

Retentions

The board elects to begin retaining the first $5M of Cyber Liability in Chesapeake

beginning in 2015. A sizable data breach occurs in the first month of coverage,

potentially exposing sensitive client information.

Scenario #5

Limits Loss, All Lines

This scenario simply evaluates the impact of one unanticipated loss up to the

Chesapeake coverage limit for each coverage currently written by the captive.

17*The scenarios are false and are used for illustrative purposes.

Scenario Testing

Decline in Surplus – Alternate Scenarios

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Summary of Case Study Findings

Case Summary and Outcomes

• An assessment of captive ratios, scenario testing and benchmark data supported releasing a portion of Chesapeake’s surplus through• Issuing a dividend

• Funding additional coverage(s)

• Implementing a grant program to fund loss prevention investments

• The board elected to • Issue a dividend to the parent company

• Adopt a capital management policy based on a combination of ratio analysis and confidence level measures

Reasons to Adopt a Capital Management Policy

• Proactive approach to managing capital

• Clear understanding of catastrophic outcomes

• Clear protocol for maintaining equity

Q & A

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