Using your captive to underwrite difficult-to-insure risks

Captives, as specialized insurance entities created by a parent company, can deliver a wide range of advantages on securing comprehensive and cost-efficient coverage for otherwise difficult-to-insure risks.

This insight, based on our September 2024 Captive Owners’ Forum looks at:

• Identifying risks where conventional insurances market aren’t suitable 
• Using diversification and risk funding within your captive
• Structuring captive programs to meet regulatory and contractual objectives
• Using captives to stimulate market support 
• The outlook on using your captive for difficult-to-insure risks.

Identifying risks where the conventional insurance market isn’t suitable 

There are a range of risks for which conventional insurance markets may offer limited capacity or coverage on prohibitive terms.

Your hard-to-insure exposures may involve new technologies or activities in politically exposed regions, or involve high-frequency administrative losses, around the service functions of your organization, such as IT and accounting. Alternatively, there may be sector-specific issues meaning your risk is challenging to insure, for example, potentially flammable cladding on commercial properties.

In any of these scenarios, you can consider using your captive to bridge gaps or offer tailored cover that can prove more cost-effective than traditional insurance.

Using diversification and risk funding within your captive

One of the significant advantages of using captives is the potential for diversification benefits. By underwriting multiple lines of business, you can ensure not all lines will suffer significant losses simultaneously. This strategic approach can help stabilize your overall risk portfolio and funding risks more effectively.

Whether it’s covering new technology risks, cyber risks, or specific liability exposures, your captive can provide tailored solutions conventional markets might not offer.

You can leverage diversification and risk funding to strengthen your captive insurance program in the following ways:

• Diversify your risk to stabilize returns, spreading exposures across different types of risks and geographic regions to mitigate the impact of a loss in any single area. By not putting all your eggs in one basket, you stabilize returns and reduce the volatility of your captive’s financial performance.
• Use multiple funding options to enhance flexibility, from traditional options like share capital, to parental guarantees, letters of credit, or bank loans. These funding sources can provide the liquidity you need to cover claims and support your captive operations without overly straining your main business’s resources.
• Use reinsurance to manage risks too large for your captive to handle alone. By ceding a portion of your risk to reinsurers, you not only protect your captive from potentially devastating losses but also help in smoothing out financial outcomes over time. This strategy allows you to take on significant risks while keeping the captive financially viable.
• Balance risk retention and transfer, deciding the amount of risk to retain versus what to transfer to the reinsurance market at a strategic level. Retaining too much risk can jeopardize your captive's solvency, while transferring too much can erode potential profits. Find a balance that fits your risk appetite and financial goals, ensuring your captive remains a valuable tool in your overall risk management strategy.

By focusing on diversification and exploring various funding options in this way, you can build a resilient captive insurance program that supports and aligns with your organization’s long-term strategy while managing risks effectively.

Structuring captive programs to meet regulatory and contractual objectives 

When setting up your captive insurance program to cover difficult-to-insure risks, it's crucial to structure it in a way that aligns with both regulatory and contractual objectives. You can achieve this effectively by:

• Partnering with commercial insurers to issue policies locally. This collaboration ensures your captive operates within legal frameworks, especially in jurisdictions where specific insurance documentation, like admitted or rated paper, is mandated.
• Use captives for claims handling. Partnering with professional loss adjusters or claims handlers helps ensure claims are managed efficiently and in compliance with local regulations while supporting contractual obligations by providing reliable claims resolution.
• Ensure compliance through strategic structuring. To follow local regulatory obligations, consider setting up branches of your captive in different jurisdictions or participating in various insurance pools. This strategic structuring helps in meeting specific local insurance requirements and enhances your captive’s ability to manage risks across diverse regulatory environments.
• Address coverage gaps and meet contractual needs. Captives can effectively plug gaps in program towers where traditional insurers may hesitate to provide coverage. By participating in layers of coverage markets prices too high or are typically uninsurable, your captive can provide a tailored solution to meet specific contractual needs.
• Access specialized pools for extended coverage. To broaden the scope of protection and meet both regulatory and contractual objectives, your captive can become a member of various terrorism or natural catastrophe pools. This participation not only ensures compliance with certain contractual requirements but also extends significant protection to your organization against specific risks.

Using captives to stimulate market support 

You can use your captive insurance company not just as a tool for risk management but as a powerful mechanism to support and stimulate the market, enhancing your business's reputation and influence in your industry.

For example, you could use your captive to identify and target niche markets underserved by traditional insurers, or capitalize on the cost-efficiency of captives to offer more competitive pricing than traditional insurers.

You can also use your captive to provide stability in volatile markets. By maintaining consistent coverage and pricing, even when traditional markets are retracting, you help support and stabilize the market, ensuring coverage remains available and affordable.

The outlook on using your captive for difficult-to-insure risks

Environmental, social and governance (ESG) factors, along with geopolitical issues such as conflicts in Ukraine and Israel/Palestine, are significantly impacting the suitability of conventional insurance markets for certain risks. These factors can lead to increased risk and uncertainty, prompting a shift toward captives. By using your captive, you can ensure your insurance needs are met in a controlled and effective manner, even in volatile environments. We recommend you review your captive(s) as not solely risk retention vehicles but as a flexible enabler of risk. In doing so, you should consider your risk as a portfolio – either insured or otherwise – to reassess how your captive(s) can add greater value by driving greater competition among markets and providing new capacity solutions.

To discover a smarter way to address your risk and insurance needs using captives, get in touch.

Contacts

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Nigel Goodlad

Regional Managing Director, GB & Ireland
Captive and Insurance Management Solutions, WTW

email Email phone +356 2248 2700

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Adrien Collovray

Head of Captive Advisory, GB Europe and International, WTW

email Email phone +44 7787 669598

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