Risk Management 101: Understanding Total Cost of Risk (TCOR)

One of the basic tenets of business is the thought that starts with “If you can’t measure it, you can’t …” and concludes with any number of “fill in the blank” wisdom such as:

“If you can’t measure it, you can’t improve it.”

“If you can’t measure it, you can’t manage it.”

If you can’t measure it, you can’t understand it.”

When it comes to risk management all the above rings true as organizations must measure the effectiveness and success (as well as failures) of their risk management programs if they hope to improve it going forward.

One of the keys to risk management is understanding your Total Cost of Risk or TCOR.

If You Can't Measure It … You Can’t Manage It

Business guru Peter Drucker, who published 39 books and called by some the founding father of modern management studies, is often attributed with saying that “if you can’t measure it … you can’t manage it.”

The Port of Houston Authority in a presentation at a Texas Public Risk Management Association put Drucker’s axiom into the contest of risk management by saying:

• If you don’t measure results, you can’t differentiate success from failure
• If you can see success, you can reward it and learn from it
• If you can’t see success, you probably rewarding failure
• If you recognize failure, you can correct it

The Port of Houston Authority said that the bottom line was that if you can demonstrate results, you will gain support.

The path to demonstrating results for many is to use Total Cost of Risk (TCOR) analysis.

What is Total Cost of Risk (TCOR)?

The definition of Total Cost of Risk continues to expand and shift so it can be hard to pin down.

“The term Total Cost of Risk (TCOR) means something different to each organization depending upon the risk management philosophy and leadership,” wrote Robert J. Blackburn, managing principal of the Blackburn Group.

Returning to the Port of Houston Authority PRIMA presentation, three examples of TCOR definition are provided:

• The costs incurred to deliver an effective risk management strategy
• A tool for evaluating the overall costs of an organization's risk management operation relative to other key measures (e.g., revenues, headcount, asset base)
• A metric used to evaluate the success of your risk management process

Another way to think of TCOR is in terms of benchmarking – with Blackburn saying that TCOR can allow organizations to:

• Benchmark the costs (flexibly) against similar organizations
• Benchmark allocated risk expenses against other internal costs allocated to products and services

Understanding Total Cost of Risk (TCOR)

A TCOR formula might look like:

• Risk Financing or Transfer Costs: Including insurance premiums and broker commissions/fees
• Retained Losses or Loss Costs: Including direct costs of loss such as deductibles and claims that are anticipated and funded inside the risk management plan and indirect loss costs such as additional unfunded business expenses that arise from a claim
• Administrative Costs: These include claim management, risk control and other project costs associated with administering a TCOR
• Taxes and Fees: Taxes and fees paid to governmental and regulatory bodies

“The TCOR is an equation that captures the total cost of self-retained losses, risk management administration expenses (internal and external) and insurance premiums. TCOR is often converted to a percentage of an operating value, typically revenue. It enables you to normalize the data for benchmarking your corporation from year to year, including benchmarking your various business units,” according to the publication Smart Business.

Benefit of Total Cost of Risk (TCOR)

That Smart Business article found that less than half of respondents (44 percent) tracked and managed all components of TCOR with 90 percent tracking transferred risk and 74 percent tracking retained risk.

The Port of Houston Authority said the benefits of TCOR include:

• Recognized benchmark; allows for external comparison
• Results in a more focused risk and insurance strategy
• Allows more informed risk management decisions made due to timely and accurate information
• Communicates accountability and demonstrates importance of risk management to senior management
• Distribute cost of risk across organizations (cost allocation program)
• Measure progress towards attaining risk management goals

Implementing a Total Cost of Risk (TCOR) Analysis

Before implementing a Total Cost of Risk or TCOR analysis for your organization you will need to decide on what data to collect and for how many years of data to include.

The Port of Houston Authority recommends that organizations select benchmarks that:

• Deliver the best value
• Capture true risk characteristics
• Relate to organization’s strategic goals/objectives
• Provide timely, relevant, concise information
• Are easily calculated and understood; measures progress

Key program cost drivers will need to be identified. The Port of Houston Authority presentation gave the following example of program cost drivers:

• Allows for implementation of focused and specific risk management strategies and concentration of resources on problematic areas
• Loss runs by line, minimum of five years data

o   Ensure accuracy of data (e.g., coding, location, type, etc.)

• Vendor payee list, legal firms & actuarial studies for past 3-5 years
• Property Schedule of Values (SOV)
• Insurance Schedule
• Contracts/Audits (e.g., Insurance, TPA, broker)
• Examples:

o   Employee Injuries: percentage lost time vs. medical only

o   Liability: percentage claims in litigation

o   Legal costs: as percentage of total claim costs

Kyle Dean, president and CEO of Dean & Draper says that optimizing TCOR is about balancing retention and risk control with premium.

“We believe the key to managing your TCOR requires a strong focused claims management and risk control program,” said Dean. “As your business’s TCOR advocate, we will help provide tactical, technical, and strategic advice as well as management tools, and coverage interruption.”

Contact Dean & Draper today to discover how loss modeling, risk mitigation, non-insurance transfer and other risk management strategies can help lower your organizations TCOR.

Dean & Draper is a Trusted Choice insurance agency representing numerous insurance companies. For over 40 years we have offered a trusted freedom of choice to our clients.  Contact Dean & Draper today.

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