Risk & Insurance

Part A: Basic Concepts

1. Which one of the following is an example to a speculative Risk?

a. Accidental Fire loss to a building

b. Premature death to a key-man in a firm

c. Occurrence of Tsunami in Dec 2004

d. Loss of income risk

e. Heavy losses in share market

2. Which one of the following is a technique used for identification of risks?

a. Risk chain method

b. Underwriting method

c. Claim checklist method

d. Fault Tree analysis method

e. Engineering approach method

3. Which one of the following is not an example of hidden cost of accident?

a. Cost of man-hours lost due to injury

b. Executive and supervisory time foregone in attending the accident case

c. Cost of employing the injured employee at lesser levels of output

d. Cost of time devoted by fellow-workers

e. Water damage caused to stocks while extinguishing accidental fire

4. Which one of the following is the name given to claims made against organizations but remain unresolved and unpaid?

a. Incurred claim

b. Reported claim

c. Closed claim

d. Open claim

e. Repudiated claim

5. Which one of the following makes Insurance a unilateral contract?

a. The parties to the contract should adhere to certain ethical principles

b. The insured is bound by decisions of the insurers, in matters of claims

c. Only the insurer can make promises that are legally enforceable

d. The insurer is at liberty either to accept or reject the proposal

e. The insured has to adhere to the rates of premium charged by insurers

6. In which one of the following aspects Social insurance plan differs from Private insurance?

a. Floor of protection concept (minimum level of economic security)

b. Should be based on the principle of Welfare society

c. Should satisfy the basic needs of community at large

d. Should have an element of compulsion

e. Should have Govt. support at all times

7. In which one of the following insurable interest need not be present at the time of taking insurance policy?

a. Life insurance

b. Fire insurance

c. Marine Hull insurance

d. Marine cargo insurance

e. Fidelity guarantee insurance

8. A Broker had promised the insured /proposer that in case of loss exceeding 65% of IEV of his insured vehicle, the insurer would consider and pay it as total loss. But arising out of accidental damage to the insured vehicle, to the extent of 68%, the insurers declined to consider the claim as total loss. Is the claim of the insured, on total loss basis, maintainable?

a. Yes, as the Broker has placed the business with the insurer

b. Yes, as the Broker is the representative of the insurer

c. Yes, the Insurers are bound by such acts of the Broker as vicarious liability

d. No, the insurer is not bound by the promises / commitments made by the Broker

e. Yes, the Insurer is morally and ethically bound to honour Broker’s promise

9. Which of the following courts will have jurisdiction to entertain cases having value of Rs.85 lakh, as per provisions of Consumer Protection Act, 1986 and as amended from time to time and in force at present?

a. District Consumer Forum

b. Full bench of the Apex court

c. Supreme Court of India

d. National Commission

e. State Commission

10. Which one of the following is material to the risk but need not be disclosed by the insured / proposer?

a. Facts about the risk

b. Facts relating to previous losses

c. Facts covered by policy conditions

d. Special terms imposed on previous proposals by other insurers

e. Full facts relating to description of the subject matter of insurance

11. If the stocks in a warehouse are covered by policies A, B and C issued by three different companies for Rs.3 lakh, Rs.4 lakh and Rs.5 lakh, respectively and when a loss of Rs.240000/- occurs, what will be the amount payable under each of the policies ?

a. Policy A pays Rs.30000/- Policy B pays Rs.80000/- and policy C pays Rs.130000/-

b. Policy A pays Rs.50000/- Policy B pays Rs.90000/- and policy C pays Rs.100000/-

c. Policy A pays Rs.60000/- Policy B pays Rs.80000/- and policy C pays Rs.100000/-

d. Policy A pays Rs.40000/- Policy B pays Rs.80000/- and policy C pays Rs.120000/-

e. Policy A pays Rs.50000/- Policy B pays Rs.70000/- and policy C pays Rs.120000/-

12. Loss prevention activities are basically risk controlling mechanism that attempts to reduce the frequency of losses. Which one of the following is an example of Loss prevention measure, achieved by modifying the hazard?

a. Installation of smoke detectors

b. Fire fighting operations of a Fire brigade to avoid aggravation of loss

c. Spare machinery kept as stand-by in a factory to avoid business interruption

d. Prohibiting smoking in work places to avoid “passive smoking risk”

e. Housing a boiler in a separate boiler shed

13. Which one of the following is an example of Active or planned retention?

a. Insurance technique

b. Proactive risk avoidance

c. Reinsurance

d. Joint insurance

e. Self insurance

14. Which one of the following means Gross premium, in the context of rate making process by insurers?

a. Pure premium plus cost of losses

b. Pure premium plus Cost of paying for losses

c. Pure premium plus loading of premium

d. Pure premium plus loading as % of gross premium

e. Pure premium plus loading for cost of losses

15. If past loss experience indicates loss occurrences with high frequency and high severity the organization generally aims at adopting one of the following techniques_______.

a. Risk transfer (100%) to insurance company

b. Risk financing by risk transfer and risk retention

c. Risk avoidance

d. Risk Control and Loss reduction measures

e. Risk transfer and Loss minimization measures

16. Which one of the following is a pre-loss objective for organizations, in general?

a. Survival of the organization

b. Steady flow of profits

c. Steady flow of earnings / income

d. Reduction in anxiety

e. Perpetuity of the organization’s operations

17. Which one of the following is not a liability arising out of ownership, use and possession of land by individuals or organizations?

a. Bailee Liability

b. Liability to Trespassers

c. Liability to invitees

d. Liability to Licensees

e. Liability to trespassing children

18. Which one of the following methods is generally considered by insurers in valuation of property losses?

a. Repairs and replacement method

b. Market value method

c. Replacement cost New less depreciation method

d. Replacement cost New less depreciation and obsolescence

e. Replacement cost New method

19. Poor penetration of insurance in India is because of the reason that the consumer is not well-informed. Which one of the following is not a reason for such poor awareness of the consumer?

a. Backwardness and illiteracy

b. High cost involved in obtaining information

c. Inability to understand the legal language of insurance contract

d. Poor media coverage

e. Inability to ask right questions

20. Who among the following is not an intermediary in insurance market / industry?

a. Agent

b. Loss Adjuster / surveyor

c. Broker

d. Third party administrator

e. Insurance ombudsman

21. “Insurance is an important risk transfer method. It is a contract under which the insurer agrees to reimburse the losses suffered by the insured in return for a premium Such an insurance transaction will normally four elements in it” Which one of the following is not the one among the said four elements?

a. A contractual agreement between the insurer and the insured

b. Presence of insurance regulator as a third party to the transaction

c. Payment of premium by the insured

d. A benefit payment by the insured based upon a contingent event

e. A pool of resources held by the insurer to reimburse the losses

22. Which one of the following is not a deductible in vogue / practice in insurance policies?

a. Straight deductible

b. Calendar year deductible

c. Deductible for under insurance

d. Disappearing deductible

e. Franchise deductible

23. The stocks, valued at Rs.20 lakh, in a warehouse were insured under 90% coinsurance clause and insured for Rs.15 lakh and following a fire loss of Rs.12 lakh, what is the amount payable by the insurer?

a. Rs. 9 lakh

b. Rs.10 lakh

c. Rs.12 lakh

d. Rs.8 lakh

e. Rs.15 lakh

24. Market risk is an example for which one of the following?

a. Fundamental risk

b. Particular risk

c. Static risk

d. Dynamic risk

e. Pure risk

25. If the initial outlay of a Automatic fire sprinkler (with 10 years working life) is Rs.24 lakh and if the savings in losses annually is expected to be of Rs.4 lakh, Rs.6 lakh, Rs.8 lakh Rs.8 lakh, Rs. 9 lakh and Rs. 9 lakh and so on, respectively, what can be taken as the payback period?

a. 3 years

b. 4 years

c. 5 years

d. 6 years

e. Not possible to say so

26. Which one of the following is a cost of increased retention of risk?

a. Savings on premium loadings

b. Decreased exposure to insurance market volatility

c. Reducing moral hazard

d. Suppliers and customers will be contracting with the firm for less favorable terms

e. Avoiding high premiums resulting from asymmetric information

27. Which one of the following does not come under alternative risk transfer tools?

a. Multi-trigger policies

b. Financial insurance

c. Captives

d. Multi-year insurance

e. Coinsurance

28. Which one of the following does not come under the purview of Property insurances?

a. Surety insurance

b. Fire Insurance

c. Personal Accident insurance

d. Casualty insurance

e. Liability insurance

29. Lot of similarities between insurance and gambling exist, although it is a misconception that insurance is gambling. Which one of the following similarities between insurance and gambling is wrong?

a. Outputs are high in both when compared to inputs

b. Claims / returns do not occur in many cases, in both insurance and gambling.

c. Possibility of outcomes are taken into account in both insurance and gambling

d. In both, only an individual stands to gain

e. Amount of claims determine the financial stability of insurer and gambler /bookie

30. Which one of the following is not correct in respect of ‘prospective Experience rating’?

a. In this method premium for coverage is not known in advance

b. The evaluation of loss experience primarily rests on the number of losses.

c. This method of rating is extensively used in Workers’ compensation insurance

d. Insured’s own past loss experiences are taken into consideration

e. By effectively controlling the frequency of losses premium can be minimized

Part-B & C

1. a. “Where there is uncertainty, there is risk. It is difficult to measure uncertainty as it is a subjective concept. Uncertainty exists in different degrees, which can be represented on a straight line.” Explain different levels of uncertainty with at least two examples, at each level.

b. “Risk is all pervasive and there is no escape. Hence individuals and organizations have developed several strategies to manage the risk and mitigate the losses” Elaborate the point by writing briefly on at least 4 of the traditional methods or risk management strategies.

(5 + 5 = 10 marks)

Suggested answer:

(A) The term certainty refers to the state where there is little or no doubt about the outcome of an event or action. Opposite of certainty is uncertainty. Uncertainty results from the doubt or inability to predict the future outcome of current actions. In this context risk can be defined as the degree of uncertainty associated with the outcome or possible loss. It is therefore rightly said that wherever there is uncertainty there is risk.

Uncertainty exists in different degrees, as it is a subjective concept, and the same can be represented on a straight line, called continuum. On one end of the line we can represent complete or 100% uncertainty and on the other end of the line we can represent no or 0% uncertainty. (0% uncertainty is otherwise means certainty).

Certainty ______________________________________________Uncertainty

(0% Uncertainty) (100% Uncertainty)

Exposure to uncertainty Exposure to uncertainty is very

is zero at this level high at this level

Level 0 (Certainty):

There is no uncertainty. The outcome is perfectly known in advance. Events that follow the law of nature, such as Physics, Chemistry and Biology fall at level 0. Outcomes from these events are almost certain. Examples: Hydrogen when combines with Oxygen the outcome is water and nothing else is possible. Sodium chloride when mixed with Hydrochloric acid the outcome is the common salt.

Level 1 ( objective probability)

It is the lowest level of uncertainty. Events at this level are characterized by the known outcomes and the likely hood of their occurrence. Examples: tossing of a coin, playing cards or lucky dip can be sited as examples ( It may be illustrated further by the fact that when a coin is tossed either it will show up heads or tails i.e. 50: 50 possibility or objective probability )

Level 2 ( Subjective probability)

Events falling under this level have known outcomes. But it is difficult to assign any probabilistic values to these outcomes. Examples: A candidate contesting in a parliament election may either win or loss but it is not possible to assign any probability to these outcomes (It cannot be said that he will win 50% of the times or loss 50% of the times). Similarly a student appearing in a competitive exam can either pass or fail but it is not possible to assign any probability. Hence in these cases it is subjective probability.

Level 3 ( complete uncertainty)

At this level the degree of uncertainty is the highest. The events falling under this category are followed by outcomes that are difficult to predict and hence the probability of their occurrence is unknown (complete uncertainty). Examples: Occurrence of natural calamities like Earthquake, Tsunami; scientific experiments, space programmes etc can be cited as examples.

(B) Risk is all pervasive and there is no escape from it. As it is rightly said risk is inherent part of our life. Mankind has developed several techniques and tools or strategies to deal with risk and safeguard itself against the perceived risks. The same is applicable to organizations also. The following are some of the traditional strategies or methods of risk management:

Risk Avoidance, Risk Reduction, Risk Retention and Risk Transfer can be considered as the four traditional or fundamental Risk Management strategies, used in every day life to handle both pure and speculative risks.

For brief write up on the said four methods / strategies -reference may be made to pages 16 to 18 in the study course text book – Risk and Insurance (2005 edition)

2. a. Explain, with at least two examples each, as to how physical, technological and operational environments create risks to organizations.

b. Write briefly on property and liability exposures, with at least two examples each – in the context of “Exposures to Risk”

(6 + 4 = 10 marks)

Suggested answer:

(a) Hazards, perils and risk factors emanate from different sources. Different environments crate different risks to organizations and individuals.

Physical environment

The environment surrounding the individuals and organizations is the physical environment. It is one of the major and primary source from which risks originate. Risks originating from this source are unavoidable and all pervasive. This environment is common for both individuals and organizations. Organizations should study the prevailing physical environment in terms of climatic conditions, possibility of flood, incidence of earthquake etc, among others. Natural calamities like cyclone, earthquake, Tsunami are examples of risks emanating from physical environment.

Technological environment

Organizations use technology in its activities like process of production. Similarly individuals use technology to increase their output, decrease defects so as to make their life easier. Since technology is a dynamic in nature, it keeps on changing and in the process a risk of obsolescence is created. Some new technology makes the old technology obsolescent. Examples: Computing technology has brought into being printers like dotmatrix, inkjet etc making the manual and electronic type writers obsolete. Similarly the four stroke technology in motor bikes has made the two stroke engines obsolete.

Operational environment

Organizations produce and sell some products or services. They employ some technology and people, use a place and other resources for the purpose. In the process of such business activities like production of products or services etc., the organizations are exposed to various operational risks emanating from the operational environment. The profile of risks faced by individuals and organizations depend on the nature of their business or activities. In general, operational risks are very complex in nature since they may be product-related or process-related. Examples: workmen working in a coal mining organization are exposed to accidents; A cinema theatre is exposed to the risk of riots. State Transport buses are exposed to the risk of fire from public, in case of any social or political disturbance.

(b) Based on the nature, exposures to risk can be classified into three categories: Property

Exposures, Liability Exposures and Human Resource Exposures.

For brief write up, with examples - on Property exposures and Liability exposures – please refer to pages 43 to 44 in the study course text book – Risk and Insurance ( 2005 edition)

3. a. “Certain aspects of risk characterized by ‘externalities’ and ‘public good’ demand for the involvement of Societal and Governmental agencies in risk management practices”

Elaborate the statement and furnish brief write up on the role of Government and Society and also private and Non-profit organizations in Risk Control.

b. Compare and contrast between Passive or unplanned retention and Active or planned retention, with illustrative examples.

(7 + 3 = 10 marks)

Suggested answer:

(a) Certain aspects of risk characterized by “externalities” and “public good” demand for the involvement of societal and governmental agencies in risk management practices.

Externalities

Externalities are costs or benefits that markets fail to capture and fail to account for. For example pollution generated by a company, though harms the neibouring community, markets did not factor it in to the pricing of the goods produced by the polluter ( i.e. the unit causing such pollution). It means that neither the manufacturer-polluter nor the consumer of the goods so produced, is paying for the harmful effects / losses inflicted on the society /community and it is being borne by the neibourhood silently as they perceive themselves too small to influence ( or take-on) the manufacturer. Thus the producers are enjoying ‘free-ride’ on the society.

Public good

A ‘public good’ is a good or service that cannot be limited to the purchasers of the good /service. In other words, it is available to all members of the community /society, at large. For example national defense, by its nature, is available to every one irrespective of their paying or not paying for it. Therefore concepts / phenomena like ‘free-rider’ or ‘public interest’ calls for effective and timely intervention of the government and Society so as to direct the costs of goods and services to the appropriate parties.

Governmental efforts

Business risks are associated with private and social costs. While private costs like cost of raw materials and labor are being accounted and factored into the pricing of the products, costs like water/air/sound pollution and material contaminations – that are flowing out of such activities are not factored/accounted into the price of the product /service concerned. Example: Smoke and ash being emitted by the cement plants into environment – causing harm (health hazards) to the neibouring community. Similarly effluents released by chemical manufacturing units into neibouring environment (which include rivers etc ) is endangering the community living in the vicinity. In this context the government enters the system of risk management practices and plays pivotal role by stipulating suitable remedial measures to arrest the ill-effects of pollution etc and make their implementation mandatory for all concerned.

Government usually exercise this responsibility by undertaking various educational efforts, enacting various statutes and regulations like building regulations, prescribing working conditions in industries, safety equipments, safety clothing etc. Government also ensures strict compliance of regulations on

pollution (through pollution control board) creation of environment fund as per Public Liability Act, 1991 and Factories Act. Government also undertakes activities like collation and dissemination of information relating to loss prevention and loss reduction activities for the benefit of the public at large. Thus the government plays proactive role in risk control activities, as part of risk management practices.

Efforts by Private and Non-profit organizations

Besides the governmental agencies, private and Non-profit organizations like Association for Energy conservation and Loss Prevention Association of India (LPA) etc also play an supporting role in risk control programmes. Such organizations will collect and distribute information about various fire hazards, accidents and the safety precautions to be taken and so on. Similarly Trade Union bodies play very active role in improving the work place safety in industrial establishments like cement plants, stone breaking units etc. Being very vocal they compel the managements concerned to comply with the prescribed standards under various statutes like Factories Act, W C Act etc,

(b) For the basic differences between Passive or Unplanned retention and Active or Planned retention, reference may be made to page 104 of the study course text book – Risk and Insurance (2005 edition)

4. a. M/s Kamalapriya Agencies, Hyderabad, have insured their stocks in the warehouse against Fire and allied perils, including cyclone, flood and inundation and also earthquake with one of the public sector general insurance company for Rs.18 lakh and got the policy endorsed, incorporating financiers’ interest, as the stocks were hypothecated against loan availed. The concerned financiers, meanwhile, also insured the stocks, with one private sector insurer obviously not knowing the fact that the insured already got them insured) for Rs.21 lakh, for the same period against Fire and allied perils excluding cyclone, flood and inundation and earthquake.

Following heavy cyclone and floods the stocks in the insured ware house got inundated badly. On receiving loss intimation, both the insurers deputed surveyors to assess the loss. The reports of the said two surveyors gave almost similar findings, which include the following:

I. The total value of stocks, as on the date of loss, was Rs.27 lakh.

II. The amount of loss was Rs.12 lakh.

III. Both the policies were independently subject to condition of average.

You are required to workout the liability of the insurers, under their respective policies or the amount payable to the insured, in terms of interpretation and application of relevant principles. (Detailed steps of loss computation, along with reasoning, need be presented fully)

(10 marks)

Suggested answer:

1. Amount of insurance (sum insured) for which M/s Kamalapriya Agencies have insured the stocks in their warehouse under the fire insurance policy, with the public sector insurer = Rs.18 lakhs.

Principle involved: Being owners, they have absolute insurable interest to take the policy

2. Perils covered under the policy: Fire and allied perils excluding cyclone, flood and inundation and earthquake. (Named perils policy with specific exclusions)

3. Amount of insurance (sum insured) for which the financiers have arranged fire insurance (to the same stocks of the insured –which are hypothecated to them) through a private sector insurer = Rs.21 lakhs

4. Perils insured under the policy taken by the insurers = Fire and allied perils excluding cyclone, flood and inundation and earthquake.

Principle involved : Being financiers – have given loan against hypothecation of stocks, they have financial interest to the extent the loan amount and also interest thereon

5. Amount of loss caused by cyclone, flood and inundation = Rs.12 lakhs.

Principle involved: Proximate cause of the loss

(The cause of loss being cyclone, flood and inundation, proximate cause is an insured peril, under the policy issued by the public sector insurer, as arranged by the insured)

6. Since there are two fire policies, covering the same stocks, for the same period and in force on the date of the loss, as per the Principle of Contribution, the loss is to be apportioned pro-rata between the two policies issued by the public sector and private sector insurers respectively. But unfortunately contribution does not arise in this case as the proximate cause of loss (cyclone, flood and inundation) is not an insured peril under the policy arranged by the financiers and issued by the private sector insurer.

7. Unless the proximate cause of loss is the peril commonly insured under both the policies, the condition of contribution of the loss between the two insurers does not arise at all. ( Under the circumstances, liability of the insurers is to be decided as per independent liability method)

8. Since the proximate cause of loss (i.e. cyclone, flood and inundation) is an exclusion under the policy arranged by the financiers (policy issued by the private sector insurer), there arises no liability for the loss and hence liability for loss arises only under the policy issued by public sector insurer, which was arranged by the insured.

9. The amount payable, by the public sector insurer, works out as under:

Sum insured under the policy = Rs.18 lakhs

Loss worked out by the surveyors = Rs.12 lakhs

Value of the stocks as on the date of the loss = Rs.27 lakhs

(Stocks are under-insured to the tune of Rs.9 lakhs)

Loss payable = Value of the stocks insured (sum insured)

______________________________________________________ X Loss amount

Total value of stocks as on date of loss

= Rs.18 lakhs/ Rs.27 lakhs X Rs.12 lakhs = Rs.8 lakhs

Principles involved: Condition of average (under insurance) and the principle of Contribution, which is a corollary to the principle of Indemnity.

(Since the stocks were underinsured to the extent of Rs.9 lakhs, insured becomes his

own insurer and accordingly as per the principle of contribution, he contributes to his own loss to the tune of Rs.4 lakhs).

The net amount payable to the insured = Rs.8 lakhs.

5. “With the opening of the insurance sector to private and foreign participation, competition at the market place has increased and consequently the prospective policy holder finds it difficult to select right company, right Agent/broker, right policy, right amount (sum insured) and right price /rate”

Substantiate the statement by enumerating some important criteria in selecting these five major factors / issues by the prospective buyer of insurance.

(10 marks)

Suggested answer:

It is true that with the opening of insurance sector to private and foreign participation competition has tremendously increased in the last few years. Though it has helped the consumer well informed and the quality of service is also improved considerably, the prospective /potential buyer of insurance, of late, finds it very difficult to select right company, right product, right Agent/broker, right policy, right sum insured and right premium price /rate, in view of too many players -with so many products - entering the market place. In the light of the above situation at the market place, the following can be considered as good criteria / guidelines, which would help the potential buyer to select right company, right agent/broker, right policy, right sum insured and right price /rate:

Selection of right insurance company

Financial strength, fairness and promptness in processing and settling claims, ability and willingness to provide service before and after a loss are the main criteria to be carefully considered by the potential consumer, while choosing a right insurance company.

Selection of right Agent/Broker

Thorough product knowledge, experience and reputation of the agent /broker, in the market, sound professional ethics, commitment to his job, concern for customers’ insurance needs/requirements and timely service – both pre-sales and post-sales etc., are the predominant criteria that need to be considered, by the prospective buyer of insurance, while selecting right type of insurance agent/broker.

Selection of right / appropriate insurance policy

An insurance policy that meets one’s insurance needs or requirements – in terms of comprehensive/complete coverage against all the risks/perils to which his property, interest or legal right are exposed or possibility of creation of legal liability exists and the one that provides suitable and adequate protection, with least cost ( ie cost effective) is the right type of insurance policy.

Selection of right amount of insurance or right sum insured

Thorough and clear understanding on the specific need for insurance, the potential loss probability- in terms of frequency and severity of loss in the past, the actual market value of the property/asset/ interest /liability concerned and the premium paying capacity vis-à-vis cost of the product etc., to be carefully examined. Suitable amount of insurance (sum insured) is to be decided, giving priority to adequate coverage to the loss exposures that are likely to cause greatest damage and risk/loss retention capacity – without compromising safety and security in return for small savings in the premium amount.

Selection of right price / rate of premium

Right price can be considered as one which provides maximum cover at reasonably low cost. However lowest price is not the right price (premium) as such offers are generally made by insurers whose financial strength and claim settling experience is questionable, whose marketing personnel(agents) are not trained or experienced and whose products do not provide adequate or suitable cover /protection.

For more detailed answers, reference may be made to pages 203 to 205 of the study course text book – Risk and Insurance (2005 edition)

Part C: Case Analysis

6. a. M/s Dilsukhnagar residents’ cooperative colony have about 12000 members in all, out of which 4000 members have 4-wheelers (cars). Being busy residential locality, surrounded by commercial complexes, it has been the target of occasional property losses due to public disturbances and vandalism, resulting into average total annual loss of Rs.60 lakh. Besides, at least 40 cars have been becoming total loss by theft, with average annual total loss of about Rs.24 lakh. The members of the society, in their annual general body meeting, reviewed the matter and decided to take measures like utilizing the security services – which may cost Rs.12 lakh annually and install theft alarm devices to all the cars, with an additional cost of Rs.20 lakh. When discussed about these measures, the concerned insurers have agreed to extend discount in the premium amounting to Rs.2 lakh and Rs.1.5 lakh respectively. It was also estimated that 40% decrease in the fire and vandalism losses and 50% decrease in the loss of cars by theft might probably result.

You are to examine the case, in a Risk Manager’s point of view, and explain whether the above society is justified in implementing the contemplated loss control measures.

b. Explain the conceptual difference between straight deductible and Franchise deductible, with at least one example each.

(7 + 3 = 10 marks)

Suggested answer:

(a) Once an organization concludes that it cannot avoid certain risks, it generally explores the possibility of implementing the available loss control measures. Obviously, it is the relative costs and benefits, associated with each such loss control measure/ tool that decides the choice. The techniques used in capital budget decision making in finance can as well be applied to judge and choose a loss control measure in risk management.

In the given case, the costs and benefits of the loss control measures, contemplated by the organization (M/s Dilsukhnagar residents’ cooperative society) need to be critically examined and compared in order to arrive at a decision as to implementation of such measures / techniques are justified or not, cost point of view.

The average annual amount of property losses experienced by the members = Rs.60 lakhs

The average annual amount of loss to cars of the members, by way of thefts = Rs.24 lakhs

__________________

Total average amount of losses experienced by the members of the society = Rs.84 lakhs

__________________

Cost of Loss control measures contemplated by the Society (out lay)

(i) Estimated Cost of security services = Rs.12 lakhs

(ii)Estimated cost of theft alarm systems to be fitted to cars of members = Rs.20 lakhs

_________________

Total cost or outlay on account of the contemplated loss control measures = Rs.32 lakhs

Estimated reduction in losses to property and cars

(a) Reduction in losses to the property of the members of the society = Rs.24 lakhs

(40% of the average losses (i.e. 40% of 60 lakhs = Rs.24 lakhs)

(b) Reduction in losses to cars of the members of the society = Rs.12 lakhs

(50% of Rs. 24 lakhs = Rs.12 lakhs)

(c) Anticipated savings in insurance premium, on a/c of loss control measures (Rs.2 lakhs and Rs.1 lakh) = Rs.3.5 lakhs

Total estimated reduction /savings on a/c of loss control measures = Rs.39.5 lakhs

Since the total cost of outlay / investment on the loss control measures i.e. Rs.32 lakhs is much less than the total cost of anticipated reduction in losses and savings in premium of Rs.39.5 lakhs, the decision to implement the above loss control measures is justified. However, if the cost-benefit analyses of the chosen loss control measures involve current expenditure and future cash flows, its evaluation is decided by using project evaluation techniques like payback period or Net present value method etc.

(b) Regarding the conceptual difference between Straight and Franchise deductibles, reference may be made to pages 228 to 229 of the study course text book – Risk and Insurance (2005 edition)

7. Write briefly on the following:

a. Duties and responsibilities of Loss adjusters (surveyors)

b. Duties/obligations and rights of the parties to the insurance contract

c. Vendor-vendee and Bailee liability exposures – with at least one example each.

(4 + 3 + 3 = 10 marks)

Suggested answers:

(a) For the brief account of duties / responsibilities of Loss adjusters (surveyors) – reference may be made to pages 177-178 of the study course book – Risk and Insurance (2005 edition)

(b) For duties /obligations and rights of insurers and insured (parties to the insurance contract) – reference may be made to page 123 of the study course text book – Risk and Insurance (2005 edition)

(c) For brief account of answer on the vendor-vendee and Bailee liability, reference may be made to page 82 of the study course text book – Risk and Insurance (2005 edition)

END OF THE QUESTION PAPER