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Captives proving their worth in hard market, say North American risk managers

When Vale S.A. found insurers unwilling to lead coverage on a large and increasingly unpopular risk, the Brazilian mining company put together a solution that left no doubt about the value of its captive as a risk financing tool.

“We had a really challenging placement a couple of years ago in Africa with a coal business,” said Michael Butler, Vale’s head of insurance and risk – base metals. Project requirements called for high coverage limits, he recalled, and “there wasn’t appetite in the insurance business to write those kinds of limits”.

Speaking at the RIMS Canada 2021 Virtual Conference, Butler said there were more than 50 reinsurers involved in the coverage but no lead insurer was willing to participate and “glue that placement together”.

Vale turned to its captive for that role, taking a “modest amount of risk” in the insurer, which allowed it to access the reinsurance market and “develop a solution that met our project finance requirements”, Butler explained.

“Critical for us has been direct access to the reinsurance market and, with that, flexibility in designing insurance programmes,” he said, highlighting the value of Vale’s captive programme.

There are other benefits organisations can consider when deciding whether to form a captive as an alternative to the traditional insurance market, panellists at the conference session agreed.

Avoiding pressure on pricing such as that affecting many lines of business in the current market is among those benefits. “The captive can act as a shock absorber to the hardening market,” said Butler. “We’re able to ebb and flow the captive participation to manage some of the pressures from the market.”

Current conditions are causing some companies to look more closely at captives, according to Alonso Teller, vice-president, captives and alternative risk transfer at AXA XL Canada. “We definitely can’t deny that the current rate environment is motivating more and more customers to evaluate their risk placements and think about their risk strategies, and how to transfer and retain risks in the market.

“Though in some areas of the Canadian market we are seeing the intensity of rate increases tempered somewhat, there are still several lines that remain challenging and continue to push rates higher,” perhaps making captives attractive, Teller added. Cyber insurance is an example, he said, of a line where rates continue to climb and towers of coverage are increasingly harder to put together.

Risk managers, particularly those with good loss records, may find captives appealing as an alternative to coverage that is expensive regardless of their claims history, Teller noted. And a captive can serve as a solution for organisations that find they are comfortable assuming more of their own risk, he pointed out.

“A captive can definitely assist in tackling these challenges and hopefully reducing your cost of risk over time,” Teller said.

Vale has scaled up use of its captive in the current market, according to Butler. The captive has taken on new lines of coverage and is participating in an umbrella layer written on a casualty placement, he said. “Recently, we’ve taken on additional risk with the captive on one of our property damage and business interruption placements, taking limits up to $0.5bn in the captive.”

While the benefits of owning a captive are attractive, it’s not a simple job to create one, said Patrick Ferguson, senior vice-president and captive sales executive with Marsh Canada. It’s a “structured process with executive decision-making support”, he explained.

Expect a feasibility study to take about 12 weeks, Ferguson said, and from four to six months to have a captive up and running.

That’s a realistic estimate, Butler agreed, although it might take longer to set up a captive in a European domicile than in an offshore jurisdiction used by North American companies. That’s because regulatory and capital requirements differ in Europe and could require more work to satisfy, he said.

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