This is the fourth in a five-part series examining the key components of claim
management from a best practice perspective. It emphasizes the importance of
the evaluation process for claim professionals looking at and interpreting
investigative facts that will ideally lead to a mutually agreed upon value for
and conclusion of each claim.
It also ultimately undergirds all claims presented under any policy during
the time frame in question. The effective execution of this component of the
claim handling process is essential for increasing the likelihood of mutually
beneficial resolutions and the avoidance of disputes that may lead to the
additional expense of litigation. The hard part is, of course, a function of
the variation in the interpretation of facts and circumstances and their
translation into claim values that drive the resolution process.
Truly effective claim resolutions are only achieved when a settlement is
reached voluntarily. Where there is a dispute about facts and/or claim value,
valuation becomes a bigger challenge. Claim efficiency begins to suffer as the
parties dispute facts, their interpretation, and the claim values determined by
them. Relationships often grow strained as a result.
Determining Claim Value
The accuracy and interpretation of facts gathered in the investigatory
process are at the heart of determining first the extent of the contractual
and/or legal obligation among the parties and ultimately where, to what extent,
and how insurance coverage applies. These elements most affect the value of the
claim upon which, in general, claimants want to maximize and insureds want to
minimize the claim value.
Of course, fairness and equity should be the claim professional's end
goal regardless of what the final claim costs are. Claim value also undergirds
the reserve setting and adjustment process and is often the key element driving
whether a claim will be resolved voluntarily and efficiently. By extension,
accurate reserves, based on the evaluation and interpretation of the facts, are
essential to managing both individual losses and the portfolio of losses under
any one or collective group of policies.
Managing Total Cost of Risk (TCOR)
Equitable and informed evaluation information is also essential to
underwriters who set the premium for the coverage purchased both now and in
future periods, both all-important to managing total cost of risk (TCOR). To
the extent there's a large variation between the collective reserves that
drive "ultimate" values for a book of business and the final total
cost at the closure of the book, financial performance of the
insurer/self-insurer hangs in the balance. Thus, the ultimate value of losses
represents the difference between profit or loss on each policy. This then is
clearly a very important aspect of claim management activity requiring
diligence and consistency in its application. In fact, a key professional
liability exposure for claim professionals is the possibility of significant
inconsistency in the execution of day-to-day claim evaluation processes.
TCOR dominates the risk manager's view of the financial aspects of
claims both individually in the short run and collectively in the long run.
This view is informed by the cumulative value of all claims under each policy
for each policy term. Collectively, the claims under all policies are the
biggest determinant of long-term loss and premium trends and ultimately the
TCOR year over year. TCOR tends to be the primary success measurement for
traditional (hazard-based risk) risk management.
As a result, accurately managing the reserves on each claim file determines
the ability of actuaries to accurately validate total reserves for loss
obligations under individual policies and entire books for business for each
specific line of coverage. Accurate reserves are the key determinant of the
trends that risk managers track as they monitor the evolving and dynamic risk
profiles of their organizations.
Determining Ultimate Values
For risk managers who retain or self-insure large amounts of insurable
risks, the accuracy of individual file reserves is as critical to them as it is
to insurers for similar reasons. The big difference, however, is that risk
managers are much more vulnerable to the pain of large swings in aggregate
reserves for retained losses that typically go to the bottom line of their
organization’s income statements. Significant and unexpected variations in
reserves are, therefore, unwelcome but, for obvious reasons, get
management's attention for better or worse.
At the heart of determining the value of a line of coverage is not
surprisingly actuarial techniques and processes that take the individual
amounts paid and reserves set on each claim file and develop those "paid
and incurred" values into "ultimate" values. This development
process considers many factors that affect the values of the various component
parts of claim costs.
For example, in a workers compensation claim, the cost of medical care is
often the most-significant contributor to a final claim value. Medical care
costs have been highly variable over recent years, from state to state, across
the myriad of medical procedures to the many variations in injury outcomes that
define the world of employee injuries. Thus, medical cost trends are one area
of analysis that actuaries evaluate carefully to both validate prior estimates
of actuarial ulimates, the development factors that lead to them, and the many
other factors that influence final claim values.
Another example of such factors is the general inflation in wages, the other
most significant component of workers compensation claim costs. These costs
vary markedly from locale to locale, from company to company, from job to job
and from period to period among other influencing factors.
Actuarial Methods
And so it is in every line of coverage—from automobile liability, where the
cost of car parts and repair labor is paramount to general liability, where
actuarial projections are influenced by factors including gross sales, customer
transaction counts, and the litigation environment in the affected locales. The
accuracy of actuarial techniques and process is central to the accurate
projections and evaluations they make that are essential to determining insurer
performance and self-insurer expense projection accuracy (affecting a
self-insured’s bottom line).
While the intricacies of actuarial methods are beyond the scope of this
article, the accurate, timely, and effective work of the claim professional is
critical to actuarial reliability and the effective use of the output. And
though claim professionals rarely interact directly with actuaries, that makes
it even more important that claim evaluations and valuations get done well and
that the results are transmitted timely and accurately. Thus, claim
professionals should take the time to understand actuarial fundamentals to
facilitate the best claim outcomes.
Important to the evaluation and valuation process is input from others,
especially for the less experienced. The days of simple formulas for setting
claim reserves and values are long over. Today's claim professionals
receive thorough training, continuing education, and supervisory oversight that
helps them move more closely toward the consistency sought in their work.
This is especially true in the areas of evaluation and reserve setting,
which affects so many other important areas downstream, as referenced earlier.
For some larger value claims, committees of claims professionals often
collectively debate the interpretation of case facts and reserve
recommendations set by the individual claim handler, again in the interest of
both accuracy and consistency. Clearly, these processes are subject to strong
subjective tendencies of individual opinions, which each of us holds. Vetting
these opinions often leads to a better, more accurate evaluation and valuation
of each claim.
Setting Reserves
Finally, great debate continues over how best to evaluate claims and set the
best, most accurate reserves as early in the investigative process as feasible.
The issue of "stair-stepping" reserves over time is an interesting
challenge in practice. On the one hand, it is obvious that early in the life of
a claim, there is only limited information available to evaluate and set
reserves. Over time, as more facts are uncovered, collected, and evaluated, a
more accurate, complete picture of the claim scenario emerges.
With this additional information comes a natural tendency to revisit key
questions like compensability (in workers compensation), liability (in auto and
general-type claims), and claim value and related reserves. Thus, periodic
adjustments to initial reserves seem only appropriate and helpful to more
accurately represent the evolving understanding of the claim and the legal
obligation surrounding it.
Stair-stepping, however, by definition is more of a methodical,
less-informed process of revising (typically upward) a claim's value, which
is often the result of an early, more obligatory reserve posting required by
some claim process standards. While not fundamentally wrong, stair-stepping
reserves doesn't serve much of a useful purpose when it doesn't
represent at least a reasonable assessment of known facts at any point in time,
early or late, in the investigative development process.
In short, best practice reserve setting entails reasonably assessing that
the set of facts being gathered at any point in time and posting a reserve
commensurate with the best judgment available to the claim professional at that
time are based on that information. Revising reserves as other significant
facts are developed has no one right frequency or pattern.
Conclusion
In the final analysis, the value of each claim will bear itself out over
time and only when the file is closed does it become final. Before that day,
and from the day the loss is first reported, there is an often-wide swath of
time over which appropriate investigative work gets accomplished (each
iteration of which provides more insight and a better view into what happened,
what legal obligation results, and what the claim is worth at the end of the
day). Throughout the life of each claim, claim professionals endeavor to
evaluate the facts as timely and accurately as possible, leading to the fairest
and equitable conclusion for all parties involved. Ultimately, claim
evaluation, valuation, and reserve setting are critically important to many
stakeholders in the claim management process.
In the next and final
installment in this series on claim best practices, I'll dive deep into
claim resolution and settlement, the final curtain for all claims, and the goal
of every claim professional.