Captives: Building climate resilience and consolidating data
The world is seeing an increase in frequency and severity of nat cat perils and secondary perils, and as a result, insurance markets have increased property rates, tightened terms and conditions and added exclusions. Climate is also severely impacting supply chains, resulting in major losses on the business interruption side. For risk managers, this means a growing focus on climate risk and looking at ways to mitigate the risk and improve resilience in the face of extreme and changing weather.
And it is perhaps not surprising that this is leading to sometimes difficult conditions in the insurance market, with difficult-to-insure risks or a complete absence of coverage, or high pricing, as seen in the US, for example, for nat cat-exposed property.
Ryan Bond, head of insurance innovation for climate and sustainability, Marsh, says some industries are already facing challenges accessing insurance for new technologies. “Many companies may have a climate strategy or a climate plan but we don’t often see businesses looking at how their captives can support the risk management. Captives could play a larger part where the commercial insurance market struggles to provide appropriate products. So there are spaces and opportunities within the captive environment to take the ‘early starter/innovator’ approach,” he says.
But a captive can also become central to risk management and loss prevention measures, and to encouraging adaptation and build resilience. The captive can drive some loss prevention programmes, collecting data about the risk, carrying out loss prevention surveys and making recommendations to the business and improving the risk.
“I do believe that playing a role in conducting and funding loss prevention surveys and climate change resilience analysis that can be presented to underwriters is a natural part of a captive’s activity,” says Lars Henneberg, vice-president and head of global risk management, A.P. Moller-Maersk A/S. “Just to understand the risk, and then drive that risk improvement through differentiated premiums, through bonuses and through contributions to loss prevention initiatives. The captive can do risk assessment, it can do risk analysis, it can price risk.”
Captives can help pay for projects with consultants to identify and quantify climate physical and transition risks, according to Peter Carter, head of climate practice and head of captive & insurance management solutions, WTW, and can help with capital expenditure to build better adaptation and resilience, which in turn makes the assets/transition plan easier to insure.
A captive can also help in looking at the multi-year total cost of risk from adaptation and resilience investments. “The recent hard property market is in part due to extensive global losses; the continued increase in the property catastrophe protection gap suggests this is likely to continue to fuel the cycle. Captives can work with parents to invest in protection, which requires upfront capital expenditure. Future insurance savings from the harder phases of property markets can help spread the cost of this capital expenditure, and a more accurate cost benefit for the parent,” he says.
Joshua Nyaberi, head of captive fronting, Commercial Insurance, Zurich Insurance Company, agrees: “At the base level, owning and operating a captive automatically means you are retaining risk and have ‘skin in the game’. This has an effect on a company’s risk philosophy and conscientiousness towards risk taking and risk prevention. The capacity for captives to build up financial resources makes them a potential financing tool for the risk managers or CFOs that makes risk management programmes affordable/manageable without having to draw more than necessary resources from the core mission of the parent.”
Data consolidation
Many have suggested there is a data consolidating role for captives with climate risk – that the captive is the perfect centralised vehicle for bringing together the various data on climate risk from subsidiaries, to use both for risk mitigation and control, and for providing to underwriters.
Carter believes there is some potential here: “It requires climate risk to be recognised as something risk managers have tools to manage and that can play a lead/strategic role in helping executives prepare for adaptation and resilience. As more risk managers take the lead in climate risk discussions, I am sure we will see the captive being deployed in incubating risks, collecting data and using that to package and finance risk appropriately.”
He adds that captives can encourage risk mitigation/adaptation to improve resilience through the quantification of the financial impacts of climate change to help inform the business case for capital expenditure on adaptation and resilience in terms of pre/post cashflow effects. He says the captive can take a medium-term position to collect data around the climate risk profile and journey of the parent.
“In the future, as and when the wider insurance market changes their appetite considerations on climate and transition, the captive can then reduce retentions,” he says. “The marketplace is finding its feet on the durable position on climate and transition, and a captive can help buy the parent time.”
Nyaberi says captives can step in to provide cover for climate-related risks, leveraging the fronting and insurance infrastructure of traditional insurers to get the risk to the captive. He says that as a data-consolidating point, captives have a role for new and emerging climate risks where no product exists in the commercial market and no claims history.
Download Commercial Risk’s report Spotlight in Captives 2024: Managing an uncertain global risk lansdscape