Total Cost of Risk
TCOR (Total Cost of Risk) is a tool for measuring the overall costs associated with the running of the corporate risk management operation relative to other key measures such as overall company revenues, total headcount, and asset base. It must be an aggregation of the key performance indicators of risk management program success. TCOR is a dynamic indicator. It needs to be considered corporate changes relative to TCOR. For example, is the company growing or downsizing? The degree of risk changes accordingly as the risks and the organization changes.
Understanding TCOR is critical to achieving the right outcomes in a risk management program. How an organization looks at expense management, margin improvement and risk volatility reduction will all drive the potential outcomes for a TCOR score. It suggests the adage – what gets measured gets managed. If the goal of an organization is to improve risk management decisions and to manage claim administration more strategically, then having a fundamental understanding of TCOR and what drives the numbers that make up TCOR are essential.
At its most basic, TCOR is really the sum of all aspects of an organization’s operations that relate to risk. This would include things such as retained (uninsured) losses, related loss adjustment expenses, risk control costs, transfer costs and administrative costs. These elements make up the more obvious categories of what would drive the total cost of risk. There are a number of other factors that would also need to be considered. Many of these factors, while not as obvious, may be more important. They may be driving more of the costs, or creating hidden costs that might be more difficult to measure.
When we think of the costs of risk that drive a workers compensation risk management program, the obvious drivers are things that we would typically manage. They get most of the focus in reports, analyses, claim reviews and overall program management. Things such as indemnity cost, medical claim costs or just total claims costs would often be viewed as the total cost of risk in some fashion. What about turnover rates for your claim administrator? How might those costs drive the total cost of risk? Could high rates of turnover drive lower levels of experience or knowledge of a program? Could that in turn drive poorer performance for a risk management program’s result?
What about lost productivity or revenue that is a result from an incident? How does an organization factor in these elements when trying to study the total cost of risk? There would also be operations managerial or operational production costs that are impacted or affected because of an incident that would need to be factored into understanding the total cost of risk model. How do we account for these things that are difficult to measure, and even more difficult to track? We know that has an impact on costs, but it will be difficult to determine the extent.
One of the more detailed areas of our discussion revolved around the increasing influence of medical issues on the total cost of risk. Both direct and indirect medical costs have an influence over the total cost of risk. Recent studies show that the medical costs for workers compensation claims now approach close to 60% of the total costs of claims. If we are still managing TCOR models using old assumptions, are we missing a growing factor of risk? How are the long-term impacts of medications and their increasing costs accounted for in these models? These potentially hidden costs of risk can be the major drivers.
So how do we manage and control TCOR? One of the data advantages in the insurance industry is the access to structured data. Accident codes, treatment codes, diagnosis codes, payment codes, industry codes all help to create a common language that can aggregate information. Innovative technology tools help to consolidate this information, store it, and make it available to analyze. The use of data science through predictive analytics, machine learning and user-friendly reporting tools can help to effectively manage TCOR. Critical to the success of this is to ensure processes that support the collection of quality data. Without quality data, a true picture of TCOR is impossible. On a side note, this also creates an opportunity for a new hidden risk – cyber risk.
When you have this extensive risk data, the analysis should focus on actions that reduce severity, duration, and total cost. These other “hidden†categories help to drive those total costs. The analysis should also have clear benchmarks. The benchmarks will be driven by the context that your organization wants for a comparative – are there industry, macroeconomic or organization specific trends available for comparatives. This will help to focus the analysis – and how you monitor the TCOR.
Managing risk is not new. Managing costs is not new. How we now look at those risks and those costs is what is changing. There is a new context. Recognizing what might not be an obvious driver of the total cost of risk is becoming increasingly more important. Acting upon those hidden drivers could be the key to success in achieving a successful outcome when it comes to TCOR.