Loss Forecasting for Beginners – Know Thy Enemy

1. Loss Forecasting for Beginners – Know Thy Enemy Stephen L Upshaw, Vice President of Risk Management, Equity Residential Ann M Conway FCAS MAAA CERA, Director, Towers Watson Steven W Sachs, ARM, Executive Vice President, Director Real Estate and Hotel Practice, Willis Group

2. Session Objectives • To view Loss Forecasting in the context of the Risk Management Process • Gain ability to understand how insurers (underwriters) and actuaries set pricing • To effectively be able to communicate the “Big Picture” to management as well as actions required to effect change • Provide use friendly and practical information that session attendees can use

3. “It is an Opportunity to Communicate with Management Using Their Language • Why Forecast Loss? • It enables Risk Managers to effectively communicate the big picture to management and then to focus on the interventions or actions that can change the outcome • It is how insurers/actuaries set pricing • Credible data is a Risk Manager’s friend and can (unfortunately) be trusted.

4. Loss Forecasting for Beginners 2. How Do We Forecast Losses • Collect Quality Data • Loss Development • Historical • Industry • Loss Projections • Importance of Relevant Exposure Data • Loss Trending Factors

5. Loss Forecasting for Beginners Loss Development • Purpose • Predicts Future Loss Trends • Improve Analysis of Historical Losses • Loss Development Factors • Traces Historical Growth Over Time

6. Case HistoryTom Doe • Incident occurred at a Shopping Center • Date of Loss • June 15, 2004 • Background • Claimant was riding a motorcycle in parking lot at 5 AM, hit a light pole and was killed. It was suspected that claimant was under the influence of alcohol or drugs.

7. Case StudyTom Doe • Physical Defect • Improper Lighting was alleged • Reserve History • 06/24/2004 $2,500 • 7/11/2005 $175,000 • Settlement • 10/09/2008 – Property Owner’s portion of jury award was $290,000 • An additional $38,650 was spent in legal fees

8. Loss Development • Limitations • Does Not Reflect Future Changes In: • Operations • Legal Environment • Societal Changes • Inflation • Case Reserve Adequacy

9. Loss Forecasting for Beginners • Other Issues that it allows you to communicate • Premium Allocation Process • Methodology • Loss Sensitivity

10. Loss Forecasting for Beginners How Does One Change the Results • Communication • Accountability • Loss Prevention • Loss Reduction • Goals and Objectives

11. Standards, Accountability and Measurement

12. Case Study: Hook’em-Slice’em Industries • Hook’em-Slice’em Industries, manufacturers of golf clubs, is a qualified self-insurer in the State of Minnefornia since January 1, 2004. Minnefornia requires that Hook’em-Slice’em Industries maintain a Letter of Credit (LOC) to secure the liabilities in its self-insured workers compensation program. The outstanding amount of the LOC is set at the lower of 175% of case reserves or 110% of the unpaid losses (case plus IBNR). • Your CFO has asked you to evaluate which of these two methods produces the lowest indicated LOC for the company. The CFO has also asked you to provide an estimate of the expected ultimate losses for 2014 claims for budget analysis.

13. Case Study: Hook’em-Slice’em Industries • In order to provide this information, you need to calculate the total program reserves as of December 31, 2013, and also to project ultimate losses for 2014 claims based on historical ultimate losses. Due to the short timeframe you have to work under, you have elected to perform these calculations internally, rather than use your outside actuary. • Based on the information contained in the attached sheets and following the methodologies outlined on these sheets, calculate the indicated LOCs as of December 31, 2013 under the two methodologies and project ultimate losses for 2014.

14. Miscellaneous Information • Your claims administration firm (TPA) changed as of January 1, 2008. You are confident that reserves are stronger under the new TPA. • The State of Minnefornia passed workers compensation reform legislation in 2008 which was expected to lower costs by 10% in 2010. • Your self-insured retention (SIR) is $500,000. The SIR has not changed since 2004. • Losses are inflating at 4% per year and payroll is inflating at 3% per year

15. Important Definitions • Paid Losses • Case Reserves • Reported Losses • IBNR - Incurred But Not Reported • Accident Year • Ultimate Losses • Unpaid Losses

16. Important Relationships • Reported Loss = Paid Loss + Case Reserve • Ultimate Loss = Reported Loss + IBNR • Ultimate Loss = Paid Loss + Case Reserve + IBNR • Unpaid Losses = Ultimate Losses - Paid Loss

17. Hook ‘em - Slice ‘em Industries Workers Compensation Program Reported Losses ($000’s)

18. Hook ‘em - Slice ‘em Industries Workers Compensation Program Reported Losses (000’s)

19. Hook ‘em - Slice ‘em Industries Workers Compensation ProgramCalculation of Loss Development Factors

20. Hook ‘em - Slice ‘em Industries Workers Compensation Program Calculation of Loss Development Factors

21. Hook ‘em - Slice ‘em Industries Workers Compensation Program Calculation of Loss Development Factors

22. Hook ‘em - Slice ‘em Industries Workers Compensation Program Calculation of Loss Development Factors

23. Hook ‘em - Slice ‘em Industries Workers Compensation Program Calculation of Loss Development Factors

24. Hook ‘em - Slice ‘em Industries Workers Compensation ProgramWhat Does a Cumulative Loss Development Factor Mean? • Age-to-Age Factors Estimate losses by one period forward • Cumulative Loss Development Factors age losses to Ultimate • Hook ‘em – Slice ‘em Industries Workers Compensation Losses

25. Hook ‘em - Slice ‘em Industries Workers Compensation ProgramWhat Does a Cumulative Loss Development Factor Mean? • Percent Reported = _________1_____________ • Cumulative LDF • Ultimate % Reported = 100% • Loss at 108 months x 1.010 = Ultimate Losses • Thus at 108 months losses are • At 96 months losses are • And at 36 months

26. Hook ‘em - Slice ‘em Industries Workers Compensation ProgramCumulative Percentage Reported

27. Hook ‘em - Slice ‘em Industries Workers Compensation Program Projection of Ultimate Losses

28. Hook ‘em - Slice ‘em Industries Workers Compensation Program Projection of Ultimate Losses

29. Hook ‘em - Slice ‘em Industries Workers Compensation Program Ultimate Losses – Calculation of LOC Amount

30. Hook ‘em - Slice ‘em Industries Workers Compensation Program Ultimate Losses – Calculation of LOC Amount

31. Hook’em-Slice’em Industries Workers Compensation ProgramQuestions to Answer • Explain why the loss development factors for 2009 and subsequent appear to be lower than prior years. What effect might this have on the projections using loss development? • Why are no development factors shown for the 2013 year? • Discuss how the stronger case reserves under the new administrator could affect the calculation of the LOC using case reserves. • What effect will a mis-estimation of the benefit level adjustment have on selected losses for 2010?

32. Homework – Estimate Losses for 2014

33. Hook ‘em - Slice ‘emAn “Alternative” Look at 2014 (000’s)

34. Hook ‘em - Slice ‘emAn “Alternative” Look at 2014 (000’s)

35. Hook ‘em - Slice ‘emAn “Alternative” Look at 2014 (000’s)

36. Questions, Final Comments and Contact Information • Stephen L Upshaw supshaw@eqrworld.com ; (312) 928-1208 • Ann M Conway, FCAS MAAA CERAann.conway@towerswatson.com ; (617) 638-3774  • Steven W Sachs, ARM steve.sachs@willis.com ; 410-584-8935