Special Report: Property Risk

Companies that have a strong property risk management strategy in place are in a good position when it comes to transferring risk to the insurance market. And it brings other rewards too, in terms of enhanced shareholder value.

“Strong risk management will help businesses secure better terms in the insurance market,” Marsh EMEA property practice leader Caroline Woolley says.

She believes that providing as much information as possible about this can create competition in the insurance market and put the business in a better negotiating position. Marsh Risk Consulting senior vice-president Richard Waterer adds: “Those businesses that possess full information about their risks will ultimately reduce their cost of risk.”

As Kate Loades, group insurance and risk manager of media company Pearson, said in FM Global’s 2009 annual report: “The costs of a risk management programme that places an emphasis on prevention and control can be offset in the form of lower insurance premium – not to mention increased capacity and higher limits – for property, casualty and business interruption insurance.”

Performance benefits It’s not just better insurance terms that await companies prepared to go the extra mile on physical loss protection. “There is a strong correlation between risk management and earnings stability,” says Dr Deborah Pretty, principal, Oxford Metrica, commenting on a recent research study on Fortune1000-size companies.

By adopting strong risk management practices to prevent fi re, natural hazards and other causes of property loss and business disruption, the fi ndings suggest a company will reduce the frequency and severity of these loss exposures, if not prevent them.

They may also reduce their earnings volatility too, enhancing shareholder value.

The Risk/Earnings Ratio study, commissioned by property insurer FM Global and conducted by Oxford Metrica, found that companies with best practices in managing property risks produced earnings that were on average 40% less volatile than companies with less advanced physical risk management. That’s persuasive evidence of a signifi cant return on investment.Commenting in the report, packaging group Ball Corporation’s senior vice-president and chief fi nancial offi cer, Scott Morrison, said: “The more volatility you take out of your performance, the greater the reliability of earnings – which translates into a more consistent valuation by Wall Street. Likewise, the more resources a company earmarks toward reducing risk, the higher the opportunity for enhanced shareholder value.”

FM Global’s own internal quantitative research shows that the average risk of property loss for companies with strong risk management practices is 20 times lower than for those with weak practices.

Poorly prepared fi rms were more than twice as likely to experience a property loss and business disruption.

And the average loss at a location deemed to have weak risk management exceeds $3m (€2.3m), compared with about $620,000 for a company that manages its physical risks well.

Rating agency Standard & Poor’s now includes enterprise risk management (ERM) as one of its criteria when assessing companies, so high scorers are likely to be better able to control, if not reduce, their capital costs, in addition to strengthening investor confi dence. And clearly robust risk management is a key part of ERM.

Waterer believes good risk management can also give companies a competitive edge. “For example, customers buying logistics services prefer suppliers that can demonstrate a high level of loss control in terms of warehouses or fl eets,” he explains. “It becomes an important part of the supplier’s selling proposition to customers, particularly with so many operating on a ‘just in time’ delivery basis.”

There can be big benefi ts too for real estate and property companies, he adds. “If a property company loses an asset completely, or even fails to maintain good security so that the property is vandalised, it will be harder to sell that space to tenants in the future.” Waterer also believes that good risk management controls can ease merger and acquisition activities.

“The assets and the controls and risk management around those assets can form an important part of the due diligence process. If companies can demonstrate they are taking action to reduce the likelihood of major events and also have mitigation strategies, this will facilitate the deal.”

Spell it out

With European companies looking to cut costs in the current economic climate, risk managers need to put their case for investment in loss protection succinctly but strongly. They have to impart the message that good risk management adds value in a way that the board understands. Spelling out the bottom-line benefi ts is a good strategy. FM Global’s The Risk/Earnings Ratio study concludes: “Preventing the potential of fi re and natural disasters, which are the major drivers of property loss and related business disruptions, provides confi rmable bottom-line benefi ts. Similarly, investing in preventing two other major contributors to property losses – human error and equipment breakdown – also can enhance corporate performance.

“There are no guarantees, of course. But the fi ndings demonstrate a signifi cant return on investment in loss prevention.” ¦