The True Cost of Claims

Insurance Claim

By Phil Bowles

Owners and managers responsible for handling and procuring their business insurance often feel a twinge when the terms accident, claim, or loss are uttered. Often these terms mean some singular event must be managed, and afterward, the firm continues its regular business. However, managing claims as single events is short-sighted and overlooks the potential financial and operational fallout, which consumes time and resources far longer than anticipated. To further complicate matters, the best path for avoiding future incidents is often unclear. In working with clients in the water and utility industry, we have seen a trend over the last decade that threatens the financial health of organizations – failing to view claims from a holistic, long-term perspective by not considering all the related yet possibly hidden costs.

This article will outline the long-term, broader impact of claims on organizations, considering all related costs. It will then provide examples of action steps proven helpful in mitigating risk, elaborate on why companies should invest time and resources into safety and risk management, and offer actionable ideas to improve the organization’s financial health.

The Claim

The riskiest exposure for a contractor is not the job site, nor does it come from hackers and cybercrime — it is their fleet. Auto accidents are the single most significant contributor to insurance claims in the contracting industry. Consequently, auto insurance premium is often the most expensive for contractors.

Maintaining an accident-free claims history is challenging. Imagine, for instance, a rash of windshield chips or other minor yet frequent accidents. The impact may seem inconsequential at the time; however, a claims history with numerous small losses has a long-term effect on insurance pricing.

Now consider a crash that results in a fatality. Perhaps lawyers are investigating negligence or wrongdoing. Vehicles are taken into evidence, and the driver may be detained on charges. The direct costs are covered with proper insurance, but what about the indirect costs to the company, personnel, and overall productivity? These indirect costs are called the fallout and represent the real cost of a claim.

The Fallout

Identifying and addressing the fallout (or indirect costs) requires an in-depth analysis of three specific areas. First, consider the operational level. What work was interrupted when those accidents occurred? Where was the driver headed? To what job were those vehicles, equipment, and materials dedicated? Any accident requires reallocating resources to make up for a slowdown on the job site. For example, if the vehicle is out of commission, another driver and truck must be dispatched to pick up equipment or materials. Depending on the severity, progress on the job may be delayed by a day, week, month, or more.

Secondly, consider the effect on productivity. Beyond project delays, how does an accident impact employee morale and overall efficiency? For example, imagine an employee who witnessed a coworker mishandling a machine. As a result, a loss occurred, and the coworker was in a legal battle that affected his wages, family, and potential future. Would this incident and the consequent fear of making a similar mistake result in reduced productivity? How might that slowdown cascade into a longer trend of delays, missed deadlines, and general productivity issues?

Lastly, what about the owners’ lost opportunity costs? Had the claim not occurred, what might they have focused on to achieve larger company objectives, and how much does this incident detract from their ability to focus on those goals?

Once the indirect costs are identified, monetize the fallout next. To calculate the fallout, consider the following factors:

  • Loss Costs – the actual costs incurred due to accidents plus the direct costs of reallocating resources and time spent managing the accident.
  • Efficiency – the indirect costs of the accidents on productivity, including morale and turnover.
  • Cost of Risk – the effect of loss history on insurance premiums, market competitiveness, and overall standing. In a tight insurance market, firms that are best-in-class will improve their standing; those who do not mitigate exposures holistically risk being downgraded to substandard coverage and higher premiums.
    Once monetized, the amount represents the Financial Leakage suffered by the firm.

Typically, the overall impact of claims results in Financial Leakage of 10 to 25 percent of total claim amounts, depending on the size and frequency of a firm’s claim history. Severe singular claims in an otherwise claim-free environment fall toward the lower-end of the range. Frequent small to mid-size claims tend towards the higher end, as they require more time and resources. A combination of frequency and severity can result in an even worse outcome that will impact a firm’s future cost of risk.

Total Cost of Risk graphic

Mitigate, Avoid, Improve

Once the Financial Leakage has been calculated, determine the methods to mitigate risks, avoiding them where possible. Our recommended approach focuses on the following areas:

Proactive Safety Culture

Habit-focused training designed to keep proper techniques and practices top-of-mind promotes a proactive safety culture. The goal is to develop daily practices that prevent incidents. Proper technology and training programs are part of the solution; however, an authentic safety culture must be developed outside a computer. Technology can only partially replace in-person interaction, team building, and teaching moments in the classroom and on job sites.

Additionally, establish an internal safety committee to monitor compliance, report real-time results, and recognize stellar performance.

Risk Transfer

Transfer risk by reviewing contractual requirements, hold harmless agreements, and other binding documents related to a project. The ability to transfer or share risk with another party (whether the property owner, subcontractors, designers, or others) will be more cost effective than any insurance coverage. Consult a risk manager and legal professional to identify and address issues before beginning a job. Their professional fees will be well worth the expense.

Subcontractor agreements are another effective method to transfer risk reasonably. Review their insurance certificates for proper coverage limits. A sub must meet the requirements to be on the job site. Admittedly, this rule is simple in theory yet sometimes tricky in practice. For instance, if a sub with a 20-year relationship fails to meet the requirements, holding him accountable can be difficult. Mutual respect and proper planning are essential to address concerns before the sub arrives on site.

Incentives

The final recommendation is to implement incentives that reward employees for adhering to safety protocols. Whether monthly, quarterly, or annually, incentives promote a safety culture. Incorporate incentives with supervisors who take ownership of their areas. Owners or managers who reward safety with monetary incentives demonstrate their commitment to a safety culture. Rewarding employees for work done safely, correctly, and on time motivates them in the future.

A proactive approach to safety and risk management is critical to preventing and reducing the costs of accidents and claims. A Financial Leakage calculation monetizes the fallout of direct and indirect costs, highlighting the complete picture of the operational, financial, and reputational effects of accidents and claims. Failing to address these areas is a sure way to experience higher costs and depleted margins. Conversely, the return on investment from best-in-class training, safety observation techniques, and an internal committee charged to monitor and measure results will pay handsomely. While safety measures do not add dollars to the top line, they reduce expenses and drop dollars to the bottom line. Act on these ideas and reap the rewards of a happy, healthy culture that will accomplish the firm’s long-term objectives.


Phil Bowles is a risk consultant with Knight Insurance Group. He specializes in working with contractors and other businesses in the utility industry, offering risk management expertise to help clients improve operational efficiency and their overall bottom line, improving cost of risk, shareholder value and ability to facilitate a transition to the next generation.

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