CHAPTER 3 RISK MANAGEMENT VII. CASE STUDIES Texas Bank Tornado1 Suggested Points in Answer Based on the information provided, you are to complete the following assignments: 1. Identify all the direct losses the bank experienced. Direct losses include the following: damage to the leasehold interest in the building, contents (furniture, carpeting, electronic equipment), valuable papers and records, possible loss due to injury of employees (none in this case). Possible legal liability claims for leasing unsafe premises (tall glass tower). 2. Identify all the indirect losses the bank experienced. Indirect Losses include the following: loss of use of the building, reconstruction of information problems, key person loss, loss of income due to the cessation of operations, loss of customers, increased costs to attempt to maintain operations, additional cost of substitute administrative building (temporary and permanent), continuing expenses including the shuttle service and allowance for commuting expenses, increased costs due to inefficiencies. 3. In a maximum probable loss event arising from a tornado, identify the additional losses that you would expect. Additional losses that you would expect from a maximum possible loss arising from a tornado: Notice that in this case given the concentration of people in a skyscraper structure, there is a massive potential for loss of life – especially when there has been no pre-loss evacuation training of the building in the case of a variety of perils including fire (and smoke). Training should be emphasized to reduce the potential loss of life. In addition, people should be trained to head to pre- designated spots away from the glass windows. So in the worse case scenario – death of all office workers with the consequential loss in income, talent, hiring and training costs – would cause a significant financial and other hardship on the company. In addition workers’ compensation costs, employee benefit distributions for life, medical, survivor income and disability would be incurred. 4. How could the bank’s risk manager use each of the following risk management tools in this case? a. Risk assumption: Risk assumption could be used by the bank taking no steps in the risk management process. However, it is unlikely that the bank would want to assume all losses. In this scenario, the bank would not want to assume any due to the high severity and simultaneous nature of the losses. The recommendation to the bank should be to use (or raise) deductibles to a level that is financially comfortable given cash flow and financing considerations. The bank may also want to assume small amounts of loss to furniture and office equipment. b. Loss Prevention: Loss prevention could be used by leasing a more secure building – one without an all-glass exterior and meeting other safety requirements from other perils (such as fire and smoke). In addition, the bank should consider evacuation training when faced with a variety of perils and alarms which would distinctly sound for tornado, fire, etc. to notify occupants of the impending problem. 1 Judy A. Rogers, Assistant Vice President, Bank One Corporate Insurance and Risk Management helped develop this case. Page 1 of 3 Risk Management c. Loss Reduction: Loss reduction could be used by not concentrating all employees and functions in one location. Keeping backup copies of important records and data at alternative locations, be prepared for emergencies by being able to shift functions and services to alternate locations. The bank should automatically and continuously duplicate electronic data at alternate sites. d. Insurance: Insurance could be used to cover the leasehold interest in the building and covering the increased cost of substitute property, the loss of use of the property, the increased costs to stay in operation, the potential for workers’ compensation claims, contents of the building as well as the possible contractual obligation to return the building in the same shape received at the beginning of the lease less ordinary wear and tear. A tornado is not ordinary wear and tear. In addition possible condemnation costs and replacement costs if contractually called for. e. Risk transfer: Risk transfer could be used through the various contracts the bank engages in, primarily the lease. The lease spells out who is responsible for the damage to the property and the subsequent clean-up. In addition, cost of the additional leasehold costs could have been transferred to the landlord – in the original lease negotiations. Risk Management at a Television Station Suggested Points in Answer Risk Management Plan: Below is a list of the loss exposures found in the WMSD case. This is unlikely to be a complete list but it provides an extensive list that a thoughtful student could present based on the pure facts of the case. In addition, you will find examples of the various risk management techniques and why each technique is considered appropriate. Loss Exposures: Business continuation plan. Is it well though-out and designed? What happens if the grandfather dies now? Is the plan funded with life insurance? Is there cash for estate taxes without damaging the business? What happens if the granddaughter dies before the grandfather? Workers’ compensation coverage for employees Key person life / health insurance for sales force and on-air staff (one sales person responsible for ¼ of sales) Loss of affiliation to a national network Damage to building, transmission tower (valuation higher than book) Auto, Aircraft – physical damage, legal liability Damage to the station’s equipment, computers, cameras, etc. (value more than book) Loss of income from business interruption / damage, from special event cancellations Increased cost to maintain operations – need to stay on the air. Need to recognize seasonality problem relative to income (advertising). Potential legal liability exists for auto, aircraft, premises and personal injuries (advertising liability, defamation of character, etc.) Personnel exposures: life insurance, health insurance, retirement to be competitive and reduce turn-over of valuable employees Examples of the risk management technique and why each is appropriate. Avoidance: WMSD would most likely not want to avoid all of the exposures above since that would imply that they are no longer in business. However, some of them may be mitigated. For example, if Page 2 of 3 Risk Management the property was leased, damage to owned property would be avoided. However, that leads to additional problems due to the leasehold interest and contractual responsibility. The station may reconsider the leased helicopter and determine the benefits are not worth the potential costs. In that case, the aircraft exposure can be avoided. It would be a “catastrophe” if the helicopter, while in route crashes on an interstate or while transporting reporters to and from a high school football game the helicopter crashes into the stands full of spectators. Assumption: WMSD may want to assume damage to small amounts of equipment and other losses for example less than $5,000. The deductible amount would be a function of financial analysis and cash flow issues. At this writing, on-air personalities are easily replaced and therefore insurance for these individuals may not be required. A TV station can buy talent easily by raising the wage rate or pay and thus, people are easily moved across the country given that there are no shortages of individuals willing to perform on-air. The TV station may also consider assuming the total loss of its vehicles (see insurance below) to use the savings to buy large amounts of legal liability coverage. Loss prevention: WMSD may want to reduce the key man exposure by spreading out the sales responsibilities to other talented people thereby reducing their exposures if the one salesman die or becomes disabled while selling ¼ the advertising. Loss reduction: WMSD may pre-arrange for back-up transmitting, camera, and other equipment. Other stations having the same exposures may want to cooperate in a shared back-up, emergency continuation plan thereby reducing the potential for large losses Insurance: Any of the listed exposures including the damage to property, legal liability, loss of use and personnel issues such as key person exposures can be insured. The TV station should consider the intelligent use of larger deductibles on the physical damage of its vehicles while buying higher limits of legal liability coverage. ***** Page 3 of 3
"Risk Management Case Studies"