Enterprise risk management (ERM) has been the topic of increased media attention in recent years. The objective of this study is to measure the extent to which specific firms have implemented ERM programs and, then, to assess the value implications of these programs. We focus our attention in this study on U.S. insurers in order to control for differences that might arise from regulatory and market differences across industries. We simultaneously model the determinants of ERM and the effect of ERM on firm value. We estimate the effect of ERM on Tobin's Q, a standard proxy for firm value. We find a positive relation between firm value and the use of ERM. The ERM premium of roughly 20 percent is statistically and economically significant.

https://www.jstor.org/stable/info/41350401

The Value of Enterprise Risk Management

Means are provided for recording, storing, calculating, communicating and reviewing one or more operational aspects of a machine. Insurance costs are based, in part, on activities of the machine operator. A discount may be provided in exchange for recording the operational aspects and providing the recorded information to the insurer. The party may review information and decide whether to provide it to the insurer. The means for reviewing may present comparative information. Information that causes insurance costs to vary may be highlighted. Provided data may be used to verify insurance application information, generate actuarial information or determine insurance rates. Operating data may be reviewed on a computer, a Web site or other display medium so a party can observe how his operating behavior compares to that of other operators of similar machines and may be manipulated so a party can understand how changes in operating behavior can affect his insurance rates.

Monitoring system for determining and communicating a cost of insurance

Earnings Management to Avoid Earnings Decreases and Losses

A data logging device tracks the operation of a vehicle or driver actions. The device includes a storage device, which may be removable or portable, having a first memory portion that may be read from and may be written to in a vehicle and a second memory portion that may be read from and may be written to in the vehicle. The second memory portion may retain data attributes associated with the data stored in the first removable storage device. A processor reads data from an automotive bus that transfers data from vehicle sensors to other automotive components. The processor writes data to the first memory portion and the second memory portion that reflect a level of risk or safety. A communication device links the storage device to a network of computers. The communication device may be accessible through software that allows a user to access files.

Vehicle Monitoring System

The Modern Corporation and Private Property

This paper investigates the capital and portfolio risk decisions of property-liability insurance firms. A theoretical model based on option pricing theory is developed which predicts a positive relationship between insurer capital and risk, as firms balance these two factors to achieve their desired overall insolvency risk. The implications of the model are then tested empirically using a simultaneous equations methodology. The results support the predictions of the model. They also provide evidence that managerial incentives play a role in determining capital and risk in insurance markets. The findings have significant implications for insurance solvency regulation.

Capital and risk in property-liability insurance markets

This article examines the impact of an insurer's level of insolvency risk on the prices the insurer obtains for its products in the property-liability insurance market. The measures of insolvency risk used are those implied by the option pricing model of insurance. The key finding is the existence of a negative relation between insolvency risk and insurance prices. This implies that property-liability insurers are penalized for default risk through lower prices, despite the existence of guaranty funds. Other firm-specific determinants of insurance prices are also identified. The results have significant implications for insurance researchers and regulators.

The Impact of Firm Risk on Property-Liability Insurance Prices

This article analyzes variations in line-of-business diversification status and extent among property-liability insurers. Our results show that the extent of diversification is not driven by risk pooling considerations; insurers operating in more volatile business lines do not diversify more. Diversification can rather be explained by the benefits of internal capital markets and barriers to business growth like market size and concentration. In our analysis, we distinguish between related and unrelated diversification. Using a measure of unrelated line-of-business diversification we find the first support for the diversification prediction of the managerial discretion hypothesis that mutual insurers should be less diversified than stock insurers. While mutual insurers tend to exhibit higher levels of total diversification, they engage in significantly less unrelated diversification than do stock insurers. INTRODUCTION The U.S. property-liability (P/L) insurance industry consists of over 2,000 active firms that differ substantially across several characteristics, including size, group affiliation, ownership structure, distribution system, geographic scope, and product diversification. The extant literature provides explanations for the coexistence of firms differing across the majority of these characteristics. A striking exclusion from prior empirical analysis is the observed heterogeneity in line-of-business (product) diversification. While a measure of product diversification is often included as a control variable in firm-level studies (see, e.g., Cole and McCullough, 2006; Chen, Doerpinghaus, and Yu, 2008; Powell, Sommer, and Eckles, 2008; He and Sommer, 2010), little evidence exists regarding the determinants of line-of-business diversification by P/L insurers. The goal of our research is twofold. First, we explicitly formulate and test hypotheses explaining variation in P/L insurers' line-of-business diversification. Second, we examine whether all business lines are equal when it comes to diversification decisions or whether the fact that two lines are "related" to each other makes a difference. Two business lines or products are considered to be related if their production processes are similar (Hill, Hitt, and Hoskisson, 1992). There is a broad literature on the advantages and disadvantages of related versus unrelated diversification strategies (see, e.g., Chatterjee and Wernerfelt, 1991; Markides and Williamson, 1994; Bergh and Lawless, 1998; Miller, 2004; Keil et al., 2008). The economic benefits of related diversification have been argued to stem from economies of scope; resource sharing in the production process should result in costs for joint production, which are lower than the sum of the costs for producing each product separately (Teece, 1980). The economic benefits of unrelated diversification, on the other hand, have been argued to stem from efficient internal governance mechanisms (Williamson, 1975, 1985). The main argument is that the headquarters of an unrelated firm can more directly control inefficient expenditures and discipline divisional managers who fail to maximize profitability than could outside investors in these divisions if these divisions were stand-alone firms (Hill, Hitt, and Hoskisson, 1992). However, the headquarters can only have such a strong positive impact on the overall firm if top managers have a substantial amount of discretion and use their power to maximize firm value. Assuming self-interested managers who derive utility from the consumption of perquisites, an unrelated diversification strategy only increases firm value if the firm's owners have a strong mechanism for controlling managerial opportunism. Two prominent organizational forms coexist in the insurance industry. While the stock ownership form has strong mechanisms for controlling managerial opportunism, the mutual ownership form does not. Therefore, stock insurers have comparative advantages in, and should hence focus on, business activities where a high level of managerial discretion is required. …

/pdf/determinants-of-corporate-diversification-evidence-from-the-4c8zaio54v.pdf

Determinants of Corporate Diversification: Evidence From the Property–Liability Insurance Industry

Regulators, investors, consumers, and insurance brokers use insurer financial strength ratings to evaluate the insolvency risk of insurers. This article investigates the factors influencing the decision to obtain a rating or multiple ratings, the determinants of ratings for the three major insurer rating agencies, and reasons for differences in ratings across agencies. This study indicates that insurers obtain ratings to reduce ex ante uncertainty about insolvency risk. It also provides evidence that specific rating determinants and their weights differ across agencies. Evidence of sample selection bias is found only in relation to Best's ratings.

Property-liability insurer financial strength ratings: differences across rating agencies

This study provides evidence regarding the risk-subsidy and monitoring hypotheses by investigating the relation between insider ownership and risk-taking in the property-liability insurance industry. The structure of guaranty funds provides incentives for owners to encourage insurer risk-taking. However, the ex post funding mechanism and incompleteness of guaranty funds may create monitoring incentives that inhibit risk-taking. Moreover, the extent to which managers engage in risk-taking may depend on how well their interests are aligned with those of the owners. The empirical results provide support for the risk-subsidy hypothesis and demonstrate the essential link between insider ownership and risk-taking. INTRODUCTION The institutional details of insurance industry guaranty funds have the potential to create competing incentives regarding risk-taking by insurers. Guaranty funds use an ex post financing mechanism to assess surviving insurers for the losses generated by insolvent insurers, and, at the same time, the assessments do not account for the riskiness of the insurers. Lee, Mayers, and Smith (1997) use the risk-neutrality and ex post funding of guaranty funds to develop two hypotheses regarding the impact of guaranty funds on the risk-taking behavior of insurers. They refer to these hypotheses as the risk-subsidy hypothesis and the monitoring hypothesis. They examine the relative strength of these hypotheses, and their empirical evidence leads them to conclude in favor of risk-subsidy. This study complements the work of Lee, Mayers, and Smith (1997) and addresses several additional issues. For stock market-based measures of risk, the evidence shows that the risk-subsidy hypothesis appears to hold, and the extent of risk-subsidy-related behavior is directly related to insider ownership. This point is related to the ownership structure hypothesis advanced by Lee, Mayers, and Smith (1997). [1] In addition, the authors are able to validate this result by exploiting the option characteristics of the risk-subsidy. Specifically, the study shows that the relation between risk and ownership is stronger for insurers whose put option is closer to being in the money. Finally, as monitoring and risk-subsidy are not mutually exclusive, the authors attempt to avoid a complete dismissal of the monitoring hypothesis by examining a series of piecewise linear relations between risk and ownership. This approach effectively relaxes the condition under which the authors might conclude in favor of the existence o f monitoring. The results appear to have important implications for the effectiveness of guaranty funds and other financial institution insurance programs. BACKGROUND, THEORETICAL ARGUMENTS, HYPOTHESES The Insurance Guaranty Fund System During the years 1969 to 1981, all states enacted laws to establish guaranty funds to protect the policyholders of insolvent insurance companies. [2] The protection provided by these state guaranty funds, however, is far from complete. [3] For instance, the funds typically limit the maximum amount that can be recovered to $300,000 per claim ($100,000 in some states), including all loss adjustment and defense costs. Deductibles are also common. In addition, certain lines of insurance typically have no coverage (e.g., reinsurance and marine insurance), and some states provide no protection for commercial insureds that exceed a particular net worth limit. Beyond these restrictions, payments from a guaranty fund are likely to be delayed compared to payments from a solvent insurer. In addition, guaranty funds do not provide reimbursement for the risk management services that the solvent insurer would have provided. The funding method used by insurance guaranty fund programs is also very important. Guaranty fund programs are funded on a post-insolvency assessment basis. [4] Thus, surviving insurers are responsible for paying the guaranty fund obligations created when one of their peers becomes insolvent. …

David W. Sommer

Papers

Capital and risk in property-liability insurance markets

The Impact of Firm Risk on Property-Liability Insurance Prices

Determinants of Corporate Diversification: Evidence From the Property–Liability Insurance Industry

Property-liability insurer financial strength ratings: differences across rating agencies

Monitoring, ownership, and risk-taking: the impact of guaranty funds