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Mix of Business Review Example. Executive Level Decision Making Using DFA Patrick J. Crowe, FCAS, MAAA. Goals of Study. Review Mix of Business Options Evaluate Optimal Growth Patterns using simulation model results. Mix of Business Options. Base Model WC+5%, HO+5%

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Mix of business review example

Mix of Business Review Example

Executive Level Decision Making Using DFA

Patrick J. Crowe, FCAS, MAAA


Goals of study
Goals of Study

  • Review Mix of Business Options

  • Evaluate Optimal Growth Patterns using simulation model results


Mix of business options
Mix of Business Options

  • Base Model WC+5%, HO+5%

  • Increase Base Model, HO+10%

  • Increase Base Model, WC+10%

  • Decrease Base Model, HO-10%

  • Decrease Base Model, WC-10%


Financial measures
Financial Measures

  • Earned Premium

  • Net Loss Ratio

  • Premium to Surplus Ratio

  • Expected Return\Standard Deviation

  • Cash Flow

  • Net Operating Results


Model assumptions

  • The DFA model assumes there is a tradeoff

  • between growth and profitability.

Model / Assumptions

Assumptions Behind Simulation


Drm flow

Corporate Elements

Reinsurance

Investment

Underwriting

Taxes

DRM Flow

Starting Policy Holder

Surplus $40 million

Workers

Compensation

Financial

Calculator

Homeowners

Financial Measures

  • Net Earned Premium

  • Net Loss Ratio

  • Premium to Surplus Ratio

  • Return on Surplus

  • Cash Flow

  • Net Operating Results

  • Financial Results

  • Simulated over Five Years

  • Balance Sheet

  • Income Statement

Analyze

Results


Caveats
Caveats

  • Effect on expense ratios has not been modeled

    • Reducing exposures could result in higher expense ratios and thus may not result in the best alternative

  • Effect of change in investment strategies has not been modeled

    • Reducing exposures will most likely result in a change in investment strategies

    • Not considered as significant as the effect on company expenses


Initial balance sheet
Initial Balance Sheet

Bonds = 91% of Assets

Loss & loss expense reserves =

64% of Surplus


Net earned premium fifth year projection
Net Earned PremiumFifth Year Projection


Net loss ratio fifth year projection
Net Loss RatioFifth Year Projection


Net loss ratio fifth year projection1
Net Loss RatioFifth Year Projection


Premium to surplus ratios fifth year projection
Premium to Surplus RatiosFifth Year Projection


Premium to surplus ratio fifth year projection
Premium to Surplus RatioFifth Year Projection


Return on surplus fifth year projection
Return on SurplusFifth Year Projection

Less rewarding

Less risky


Return on surplus fifth year projection1
Return on SurplusFifth Year Projection

Better


Cash flow fifth year projection
Cash FlowFifth Year Projection


Net operating results fifth year projection
Net Operating ResultsFifth Year Projection


Net operating results fifth year projection1
Net Operating ResultsFifth Year Projection


Conclusion risk vs return

P

Conclusion – Risk vs. Return

Expected Standard

OptionReturnDeviation

HO (-10%) +6.1% ± 12.0%

WC (-10%) +5.4% ± 12.3%

Base +3.9% ± 12.8%

WC (+10%) -1.1% ± 18.5%

HO (+10%) -3.9% ± 19.7%

Decreasing Homeowners exposures (10)% results in:

  • Higher expected return and

  • Lower standard deviation

    … vs. the current and other strategies.


Conclusion cash flow

P

Conclusion – Cash Flow

Cash

OptionFlow

HO (-10%) 0.0167%

Base 0.0163%

HO (+10%) 0.0157%

WC (-10%) 0.0137%

WC (+10%) 0.0136%

Decreasing Homeowners exposures (10)% also results in:

  • Higher cash flow

    … vs. the current and other strategies.


Conclusion p s ratio at the 50 percentile

P

O

O

Conclusion – P:S Ratio at the 50% Percentile

Decreasing HO & WC exposures (10)% results in:

  • Lowest premium to surplus ratios

    … vs. the current and other strategies.

Premium to

OptionSurplus Ratio

HO (-10%) 1.26

WC (-10%) 1.33

Base 1.81

WC (+10%) 2.91

HO (+10%) 3.14


Conclusion net operating ratio

P

Conclusion – Net Operating Ratio

Probability of

OptionOperating Ratio < 100%

HO (-10%) 79.4%

WC (-10%) 61.7%

Base 45.2%

WC (+10%) 27.6%

HO (+10%) 14.8%

Decreasing HO exposures (10)% results in:

  • Highest probability of operating ratio < 100%

    … vs. the current and other strategies.


Conclusion net loss ratio

P

Conclusion – Net Loss Ratio

Net

OptionLoss Ratio

WC (-10%) 71.4%

HO (-10%) 71.5%

Base 71.5%

HO (+10%) 71.7%

WC (+10%) 72.9%

Decreasing HO & WC exposures (10)% results in:

  • Lowest net loss ratio

    … vs. the growth strategies.


Conclusion rankings

P

Conclusion – Rankings

Risk vs. Cash P:S Net Net

OptionReturnFlowRatioOp RatioLoss Ratio

HO (-10%) # 1 # 1 Tied # 1 # 1 Tied # 1

WC (-10%) # 2 # 4 Tied # 1 # 2 Tied # 1

Base # 3 # 2 # 3 # 3 Tied # 1

WC (+10%) # 4 # 5 # 4 # 4 # 5

HO (+10%) # 5 # 3 # 5 # 5 # 4

Decreasing HO exposures (10)% results in:

  • Most return and least risk

  • Greatest cash flow

  • Lowest P:S Ratio

  • Lowest Operating Ratio

  • Lowest Net Loss Ratio


Conclusion
Conclusion

  • Although decreasing Homeowners exposures is the best option, neither the current U/W strategy nor the alternatives are expected to result in an adequate return or a sufficient financial position to support the company’s business!