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Understanding the Total Cost of Risk

Understanding the Total Cost of Risk

by Bill Zachry, SCIF Board Member

In today’s business landscape, the ability to quantify risks in financial terms is crucial. With this information, the business can focus appropriate resources to mitigate enterprise-wide risks by shifting the risk to another company or by reducing the risk through improved operational efficiency.

While businesses inevitably bear the costs of risk in their operations, the question is, what is the monetary value of managing these risks, and how can they be effectively shifted to another organization (purchase insurance) managed or minimized? TCoR not only quantifies these exposures but also assists risk managers in identifying opportunities for cost savings.

Understanding TCoR: TCoR represents the total cost of insurance premiums, retained losses (including deductibles and uninsured losses), and internal/external risk control expenses. Recognizing and breaking down these costs empowers risk managers to devise and implement effective risk management strategies aimed at reducing them.

Common Misconceptions: It is a common misconception that TCoR consists solely of insurance premiums. While insurance premiums are the most visible costs associated with risk, they are far from the only ones. There are numerous other expenses linked to risk that are often not meticulously tracked or considered fixed costs.

Budget Allocation: In many organizations, the costs associated with TCoR are not solely attributed to the Risk Management department’s budget. For instance, expenditures related to plant improvements for risk prevention may fall under the capital improvement budget, personnel responsible for prevention may work in Safety or Prevention departments, and workers’ compensation costs might be under the purview of HR or Benefits. The TCoR process brings together costs from various departments, providing a holistic view of risk issues and enabling a corporate-wide focus, irrespective of the budget source.

Elements of Total Cost of Risk (TCoR):

Insurance Premiums: This encompasses the expenditure on insurance coverage and broker commissions.

Retained Losses: These are expenses incurred ‘out of pocket’ for losses that fall below the deductible. Examples include minor incidents like employee-caused spills requiring dry cleaning of a client’s suit.

Costs for Employee/Customer Protection: These costs cover measures to ensure the safety of employees and customers, such as safety equipment, mats, warning signs, and training. Tracking these expenses internally is essential.

Company Personnel: This category includes the entire risk management team, budget, safety staff, and HR personnel responsible for reporting, managing losses, and internal injury prevention.

Vendors: Vendors may include Third-Party Administrators (TPAs) for claims administration, attorneys for legal matters and insurance contracts, cyber breach response consultants, insurance brokers, property inspectors, and alarm monitoring companies.

Productivity Loss: This relates to the cost of lost productivity due to injuries or losses. Employees spending time on tasks like driving colleagues to the doctor, investigating incidents, and cleaning up spills all contribute to these risk-related expenses.

Once a company comprehensively calculates its TCoR, it can pinpoint the most significant opportunities for cost savings. Additionally, this calculation aids in substantiating the cost-effectiveness of prevention efforts. TCoR serves as a valuable compass for risk managers navigating the complex landscape of enterprise-wide risks.

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