Risk Management

Frustrated with insurance pricing, more orgs looking at captives

It's one way for CFOs to help affordably cover risk.
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· 5 min read

It’s a perfect storm (like Chris Farley’s El Niño), brought on by a confluence of economic and natural forces.

Building repair and replacement work is getting expensive, while the risk of loss from catastrophes (CATs) like windstorms, floods, and wildfires means risk managers and finance pros have a tough task in protecting their commercial property portfolios. But insuring these risks seemingly becomes more difficult (and expensive) with each renewal period.

And it isn’t like simply forgoing a property insurance policy is the solution.

“CFOs don’t want to save $3 million [in premiums] but take on $400 million of risk in an earthquake-prone or a windstorm-prone area,” Michael Serricchio, a managing director with insurance broker Marsh’s captive solutions practice, said. “When insurance is cheap, you buy it. And when it gets hard like it is now [the] last few years, you pivot and you do different, creative things.”

One alternative that decision-makers are exploring more is captive insurance, according to experts who spoke with CFO Brew.

Say what? Simply put, a captive is an insurance company that writes policies for the entity that owns it. Ownership can range from a single organization or an association of companies. Companies form a captive after conducting a feasibility study, and its primary source of revenue is insurance premiums paid by the parent company.

A captive might prove useful to CFOs looking to bridge coverage gaps, insure unique or hard-to-place risks, or buy down a deductible, Jennifer Santiago, director of risk management and safety at Wakefern Food Corp. and a former president of the Risk and Insurance Management Society (RIMS), told CFO Brew. For instance, a company with a $1 million deductible on their property insurance policy may opt to place a $1 million policy with its captive.

Another benefit to CFOs is that a captive isn’t looking to benefit from the company as policyholder, and won’t charge for things like writing policies or handling claims, Santiago said.

Getting started. But how does an organization go about forming a captive? A captive is not a “set it and forget it” sort of thing, according to Marsh’s captives guide.

The process often starts with an organization meeting with a captive manager to discuss its goals, risk appetite, and tolerances to determine if a captive is a smart choice and which type is best, Carter Lawrence, commissioner of the Tennessee Department of Commerce and Insurance, said in a written statement to CFO Brew.

The Volunteer State would know a thing or two about captives. Not only is Tennessee among the top captive domiciles in the world, according to a Business Insurancereport, it created its own captive insurance company in 2022 to self-insure for property and general liability risks. The captive covers all state-owned buildings and contents, which have a total property value greater than $31.4 billion, Lawrence said.

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“The Tennessee Captive Insurance Company allows the state of Tennessee to operate with a high degree of efficiency as it works to insure property losses up to deductible limits, access the wholesale reinsurance markets to reduce premiums, minimize volatility in pricing, and underwrite the state’s own unique risks,” Lawrence said in the statement.

Of course, the captive’s creator has to put its money where its mouth is. After determining whether a captive fits into its financial and strategic objectives and deciding which structure to pursue, the parent company has to put forward enough capital to support the captive’s business plan. How much exactly is dependent on where the captive is domiciled, according to the Marsh captives guide.

For example, Vermont, currently the most popular domestic captive domicile, requires a captive to “maintain unimpaired paid-in capital and surplus of” between $100,000 and $1 million, depending on the structure of the captive.

Getting jiggy with it. Some organizations get creative with their captives to provide some savings and flexibility, Serricchio said. They raise their retention (the amount of money required to pay per claim before insurance kicks in) or lower their limit (the max that insurance pays in a claim). The captive can cover resulting gaps, and CFOs benefit from cheaper premiums on a traditional insurance policy.

Long haul. Santiago cautioned that the work does not stop after an organization forms the captive. Even though a captive is not like a traditional insurance carrier, it is still a licensed and regulated insurance company. Stakeholders must regularly review the financial health of the captive and answer questions, such as whether the premium it charges are appropriate.

“You want to look at a line-by-line basis and say, ‘Was the premium adequate to cover our expected losses?’” Santiago said.

Both Serricchio and Santiago said they expect interest in captives will only grow in 2024 and beyond, particularly in an environment in which insurance costs seem to continually be on the rise. Serricchio said his firm is seeing “record growth” in clients forming captives.

“There were times where, when the market was really soft and you could buy insurance very cheaply, you necessarily wouldn’t need a vehicle like that,” Santiago said. “I don’t know that we’ll ever get back to truly soft insurance [pricing], so I think the need for captives will continue to increase.”

News built for finance pros

CFO Brew helps finance pros navigate their roles with insights into risk management, compliance, and strategy through our newsletter, virtual events, and digital guides.