Can investing in risk management to reduce premiums deliver a return?

In the realm of commercial and corporate insurance, the balance between risk management and insurance premiums often teeters on a delicate scale. Insurers are increasing their demands for enhanced risk mitigation practices from property owners, which raises the question:  is it financially wise to invest significant capital into risk improvement initiatives to yield reductions in insurance premiums?

To answer this, we look at some of the considerations and detail a case study.

Considerations

• Identifying Target Areas for Risk Mitigation: Prioritising risk mitigation efforts is crucial. Working with a capable and experienced insurance broker to understand which areas pose the highest risk to your business and offer the most substantial potential for premium savings is paramount.
• Cost of Risk Mitigation Projects: In many cases, following through on a risk management strategy has financial implications. Assessing the cost of implementing risk improvement initiatives is essential. It involves evaluating the expenses associated with each project, including materials, labour, and consultant fees.
• Modelling Premium Savings: Employing predictive modelling to estimate the potential annual premium savings post-implementation of risk mitigation measures is crucial. This enables business owners to gauge the long-term financial benefits of their investment in risk management.

Case study | An Australian food manufacturer

Let’s look at a scenario where an Australian-based food manufacturer is grappling with an insurance premium of $1,200,000. Through collaboration with their insurance broker and risk engineers, the manufacturing facility’s major hazard – fire – was identified. The risk assessment pinpointed two critical areas for improvement:

• Bushfire Risk: Proximity to native forests posed a significant threat, as embers from any fire could infiltrate the facility through open holes.
• Building Fire: The existing sprinkler system failed to meet FM certification requirements, leaving the facility vulnerable to fire-related damages.

Recommended treatments:

• Bushfire Risk: Installation of approved steel mesh over building openings to prevent ember intrusion.
• Building Fire: Upgrading the sprinkler system to meet FM certification standards tailored to the manufacturing environment.

After discussing the recommendations with the relevant contractors, the total cost for implementing these risk improvements was estimated at $600,000.

Return on investment analysis

The insurance broker conducted a comprehensive analysis to assess the return on investment (ROI) based on capital costs and projected premium savings from these new risk management measures:

• Capital Costs: $600,000
• Premium Post-Improvements: $850,000
• Premium Savings: $350,000

Result: The capital expenditure for risk improvements is anticipated to yield a return period of 1.7 years through premium savings alone.

Conclusion

This case study illustrates the potential financial benefits of investing in risk management initiatives to help mitigate rising insurance premiums.

By strategically allocating resources towards addressing identified risks, property owners can not only enhance the safety and resilience of their assets but also identify significant cost savings in the form of reduced insurance premiums. Ultimately, the decision to pursue such investments should be guided by a thorough assessment of risks, costs, and anticipated returns, ensuring a balanced approach to risk management and financial stewardship.