How to Prepare for the Risks That Await You in 2014
Do you know what potential traps and other risks await your company in 2014? Lei Yu, Head of Corporate Services at risk advisor Marsh for large global institutions and commercial corporations in Hong Kong, has a rough idea.
“People are quite worried about weather-related natural catastrophes,” she reports. “People are still concerned about the economy, interest rates and how the world is recovering . . . The third part would be government regulations, which are being put in place in a lot of countries.”
Lei Yu spoke to CFO Innovation’s Cesar Bacani about the risks in Asia, how companies are mitigating them and tips from Marsh regarding how to get the best price for corporate insurance. Excerpts:
Looking at what your clients are saying about 2014, what are the key risks that worry companies in Asia the most?
We just went through Typhoon Usagi a few weeks ago and we have seen flooding in Thailand [in the past weeks, recalling the massive floods of 2011], so people are quite worried about weather-related natural catastrophes.
The second, from the overall business perspective, people are still concerned about the economy, interest rates and how the world is recovering [particularly with the political fight around increasing the US debt ceiling]. We have a lot of clients going through their budgeting season. They want to understand how much to invest and so it is a concern to them, the overall risks around the economy.
The third part would be government regulations, which are being put in place in a lot of countries. Anything to do with regulations is all going to affect business. In China, you have regulations on government bribery, all those things. In Europe, people are very worried about environmental regulations coming out as well.
Now that [the global economy appears to be] recovering, many of our clients are engaging in more import/export activities. But they are increasingly worried about regulations related to product liability, product recalls and environmental liabilities in the US and in the European markets.
Everyone knows there are typhoons in Asia. At this point, aren’t companies prepared for these disasters already, with contingency plans in place and so on? Or is the worry the new severity and frequency of typhoons?
You always have typhoons, but whether people are prepared, that’s a big question. I think a lot of companies are still not very prepared, even though the Thailand [flooding] is a very big lesson for us [at Marsh] and for a lot of our clients.
Some companies say, well, you know, we had a typhoon already, maybe we’re not going to have a similar typhoon in the next two years or three years. But actually, it can still happen. I think people are still not as prepared as you think.
And you’re right, we have more and more unpredictable natural disasters happening [probably because of global warming]. They occur more and more now – the New Zealand earthquake, Japan tsunami, the Thailand floods. The frequency is increasing.
What about the economic worries you referenced earlier? Is there a sense that the global economy will be worse in 2014 than in 2013?
Not really – in fact many of our clients are seeing stronger export/import demand, as I said. But what is very interesting is how very interdependent businesses have become.
Just to give you an example, I was talking to a client, and we realized they were relying on a synthetic oil that is produced by one company in Thailand. So if that company goes down, it can have an impact worldwide because all the synthetic oil is produced by that one company.
Maybe 20 years ago, you have different companies in different countries producing different things. If one company goes down, if one country goes down, you can still go to another source. These days, [some enterprises] source from only one company. If that company goes down, then that’s it.
Let’s talk about company worries over regulations.
Maybe because of the financial crisis, some countries have become more protectionist. They are issuing regulations to protect their own domestic industries and their people, things like environmental regulations, workmen compensation, employee compensation.
Does this include taxation? Are tax authorities more strict in enforcing the rules?
Yes, it’s true. A lot of governments, especially in Europe, are looking at taxes. Previously, many companies did not buy a local insurance policy, because they thought they could save money by buying a global insurance policy.
But many governments now have a strict rule: You must buy a local insurance policy. That’s because if you buy locally, you pay value-added tax and other taxes on it. And many countries, especially in Europe, need revenues.
For example, there is no GST [goods and services tax] in Hong Kong. So a company in Malaysia may say: We’ll buy in Hong Kong. If there is any claim, the insurance company will pay into the Hong Kong subsidiary, which will then transfer the money to the Malaysian operations.
But people need to be careful [nowadays] because if the Malaysian operations received an insurance claim, the government is going to ask: Where did you get that claim from? If they discover you bought the insurance policy in Hong Kong, they will fine you and you would still have to buy insurance in Malaysia.
A lot of countries did not actively review before. They are more strict now. They are looking for these kinds of transfers.
Another thing, when you talk about risks, is the so-called Black Swans, which are unforeseen events like 9/11 and the Lehman Brothers collapse.
But if you look at those events, they actually repeat themselves historically. We actually had something similar [to the 2008 financial crisis in the 1997 Asian financial crisis]. People tend to have short-term memories. I bet you the Thai flood is going to occur somewhere, but sometimes people don’t see it. They don’t think about it that way.
If you think about these things all the time, though, the danger is that you over-prepare. You may end up spending so much money on protecting your company.
That’s true. But that’s why it’s very important to periodically review [the company’s risk profile]. I think for CFOs and CEOs, when you are expanding your business, you are so focused on growth, on the upside, that you don’t like to look at the downside. And that becomes the danger.
We always tell our clients, when they are growing the business, that’s the time they should review their risks more often, to find out what are the potential downsides.
What is ‘more often’ – every quarter, every month, every year?
With our clients, we do it every year. It should be done every year, but surprisingly, I don’t think a lot of people do it. They say: Yes, we have a risk register. But how often do you really review it, not just open the spreadsheet and look at it?
What does this risk register look like?
It’s like a risk map, with two axes [representing severity and frequency]. So for every risk, you measure whether it’s low severity and low frequency, high severity and low frequency, low severity and high frequency, or high severity and high frequency. So you know where you are, and the company can then decide what to do.
Every year, at the least, you should review what’s the severity, what’s the frequency. It could be that there are more and more typhoons and/or the severity has become higher. For some risks, the severity can become lower and also occur less frequently, in which case you can [dial down the protection].
How do you measure severity and frequency?
That’s the interesting thing. For some risks, you have to rely on modelling. Next year, Marsh is going to launch what we call a risk analytics platform. As an insurance broker, we collect data [on companies]. We are also re-insurance brokers, so we help insurance companies calculate natural disaster frequencies as well.
But that’s only the frequency. On the severity side, companies usually have to look internally. Because different businesses have different requirements, their severity will be different.
I imagine a company will have a number of risk registers, then, one tracking natural disasters, another measuring financial risk, operational risk and so on.
We always tell our clients, you should look at your financial risks, your operational risks as well, in totality . . . They are difficult to quantify, difficult to assess, but they are very important.
Usually, we assign [the descriptors] low, medium and high. You don’t want to assign probabilities of 90% versus 85%; people are going to sit around and argue the whole day.
Let’s talk about insurance coverage. How may the risk function and the CFO persuade others in the company that a policy is needed even though the company has never suffered the risk being guarded against?
You need to look at your peers, see whether these things [such as flooding or cyber-hacking] have happened before or not. Of course, the counter argument will be: it’s other people, it’s not us. You can argue on that part, but I think it’s very important for CFOs to be well-informed. That’s one.
Secondly, insurance should be seen as a long-term investment, not spending . . . It’s really for when things happen, you have the ability to bring the business back to normal. You have to think about insurance that way.
Don’t think: Okay, I spent $100,000 on insurance this year. I better claim back $110,000 next year. Otherwise, I’ve wasted $100,000.
Would it help if the CFO is actually seen to be making sure that the company gets the best price, that instead of paying $100,000, it pays only $90,000 for the same coverage?
You definitely have to get the best price for the buck. No doubt about that. This means the CFO needs to be smarter.
This also means that insurance should not be a procurement function. A lot of times, insurance in Asia is seen as like buying pencils or notebooks. It’s not. Insurance is not procurement. Actually the insurance policy is a contract that has a lot of details. It’s not that commoditized.
So where should insurance sit?
It should sit in a more strategic financial planning function. In some organizations, you have a Chief Risk Officer who not only looks after how to get [the best price for insurance], but internally how to manage the risks as well. In other companies, it’s the CFO and the finance function [that take care of insurance coverage].
But I think CFOs have a lot of things going on now. So instead, they tend to just measure the price.
Are there ways for that $100,000 to be clawed back?
In a way, yes. When we renew the insurance programme, we always look at the loss history. If the loss history is good, then you will always get a discount for your next year.
Would a company get credit as well if it can demonstrate it has strong risk management system, a robust culture of risk where everyone in the organization looks out for potential risk and does something about it?
You get a discount, you get a credit . . . This is part of the risk assessment process carried out by the insurance company as well, especially for liability-related insurance. For example, for employee compensation, if you have a very good safety environment, and everyone is conscious about workplace safety, then your premium will be lower per year.
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