Supply chain market evolving, but needs kick start

The supply chain insurance market has made significant strides in recent times and risk managers are being offered broader coverage than ever before. But it needs more companies to take out cover to boost momentum.

The shock 2011 Thai floods and Japanese tsunami focused the minds of the risk transfer and management community on supply chain and business interruption (BI) risk. Since then, more and more incidents are causing havoc, and risk managers are becoming more aware of the risks throughout their value chain.

This experience has sparked critical investment in risk identification and modelling techniques to help better assess, and ultimately price, this critical risk. But this market remains very much in its infancy. While plenty of quotes are being offered, we are only now starting to see policies being bought.

It seems that finding a common understanding of what supply chain risk is, where it fits into the lexicon of transfer solutions and the fact that protection involves extra spend on the part of the buyers, remain big stumbling blocks to the development of risk management and transfer solutions.

Global insurance broker and risk consulting firm Marsh has focused a lot of resource in this area during recent times and has a unique view of supply chain risk. It created a global business interruption initiative designed to help companies feel more comfortable with their level of risk, improve their knowledge and provide advice on strategies to mitigate and transfer the risk.

Marsh offers client training, cross-class gap analysis, advice on the impact of a potential business interruption loss, development of broader wordings and innovative solutions that it says will change the face of the insurance industry in this line of business.

Caroline Woolley, managing director in the Marsh Risk Finance Practice, says: “We view business interruption risk as our clients do – it can be caused by any event at any stage in the value chain, from raw materials and utilities, to final customers. The events don’t fit neatly into existing insurance categories, so we are sorting out the jigsaw puzzle for our clients and trying to avoid any missing pieces or gaps. The sooner insurers see it in this way too, the better.”

Marsh advises companies to begin boosting protection by looking at existing policies that focus on damage to physical assets to get an understanding of their limitations.

Caroline Woolley explains the next step: “We push the boundaries of existing policies as far as possible, but when the perils or limits required are not sufficient, we look to non-damage business interruption policies. We try to group as many of the non-damage perils together as possible, including cyber attacks, strikes and political risk. Our clients don’t want to buy a whole new policy for every event they face.”

Steve Forrest, managing director in Marsh’s risk finance practice, tells Commercial Risk Europe that big progress has been made in this increasingly important area. But he also stresses that further work is needed to fully realise the value and potential of this market.

“There is a difference between the public perception of supply chain and how the insurance market views it. For the insurance market this really goes back to original consequential loss policies that have developed into business interruption cover. In this sense supply chain risk was essentially the risk of property damage suffered on the premises or operations of your supplier that impacted on your business. In broad terms, this is still the way the insurance market views this risk,” Mr Forrest explains.

The real transformation began back in 2000, when the market was given a serious wakeup call following a fire at the Philips microchip plant in Albuquerque, New Mexico. The fire simultaneously affected both Nokia and Ericsson, then Europe’s leading mobile providers. Nokia was able to rapidly shift suppliers because it had a strategy in place to cope with a sudden loss of chip supply. Ericsson had no such backup plan, lost some $400m in mobile sales and ultimately exited the market. Following the incident, the reinsurance sector realised its huge accumulation exposure and capacity evaporated for this line of business.

Since then the market has developed considerably, particularly with the rise of non-damage business interruption or contingent business interruption (CBI) policies.

The shock losses caused by the Thai floods of 2011 served as another wake-up call, and the reinsurers again threatened to pull cover. But this event helped focus minds and efforts and led to further coverage improvements.

As Robert Lewis, claims leader at Marsh’s claims consulting practice, points out: when it comes to developing areas such as supply chain insurance, claims tend to re-define the policies on offer. Encouragingly, Mr Forrest says that during the past few months there has been a marked ‘community of interests’ within the insurance and reinsurance market in this area.

“This has occurred in a large portion of the insurance and reinsurance sector, which enables us all to push the envelope. Agreement on what supply chain insurance should actually be is critical,” he says.

So is the market exploding? Not quite yet, says Mr Forrest. “The building blocks are largely in place. We have claims history, risk management is being carried out, as well as pre-loss work with clients. The risk is on the register and this helps define it, enables you to carry out scenario testing and, again, push the envelope as far as possible,” he explains.

“The big question is the price and whether Airmic members or the CFO will pay for the cover. The market has come up with broader cover in response to customer demand, but it was at a price that the clients found unacceptable. A lot of quotes were put out in the UK and not accepted, but the improvement of information and data has improved the perception of the risk and made the market more acceptable,” adds Mr Forrest.

There are two obvious potential stumbling blocks in this market. Firstly, customers have not historically had to find budget to cover this risk and, because it is not yet a mass market, insurers must charge more because the risks are not spread across a wide portfolio.

The answer to unlocking this market, however, could well lie in the risk identification and modelling element of the equation.

“There has been progress on transparency, but is the speed of progress sufficiently fast for the buyers? The adoption of the UK Insurance Act should have made a difference but whether it has or not is difficult to say currently. Again, if it is a new and unusual risk then underwriters will naturally be more cautious,” says Mr Forrest.

“We need someone willing to pay the extra for the protection because without the margin the insurance market cannot develop and grow. We need companies with significant risks that recognise the value of this cover and are prepared to pay the margin,” he concludes

Another tool needed to unlock this market is data. As Nicola O’Neill, business continuity management consultant at Marsh, says: “Many businesses have not yet quantified this exposure and this needs to happen. Qualitative and quantitative analysis needs to be carried out on the potential downtime following a loss, the conse-quential losses and ultimate cost. Com-panies need to understand their maxi-mum potential loss and probable loss ratios. Unfortunately, in many cases, the customers do not yet have the data.”

“Or the reality is that the customer does have the data they just do not have it in the form needed. Also, often the information is fragmented across the business. This needs to be gathered and analysed in an enterprise wide manner,” adds claims expert Mr Lewis.

So it appears that supply chain risk is very real and very important, and solutions are out there.

But the vast majority of potential customers – and insurers and brokers – are not yet structured in a way that helps the market collectively gather, analyse and model the risk. The potential value of this coverage is obvious for both customers and the insurance market.

In the absence of terrifying headlines and stiff new regulations, clearly more work is needed to realise its potential.

To reflect the rapidly rising importance of this critical area Commercial Risk Europe and sister publications will hold a groundbreaking full day conference supported by Airmic with headline partners including AIG, Clyde & Co and Marsh. The event will be held in London on Tuesday 12 December, the same day as the annual Airmic dinner. Attendance for the conference will be free for risk managers. Further details can be found at http://www.commercialriskonline.com/event/supply-chain-london-2017/