From: Captive Insurance Times

Temple University’s Michael Zuckerman discusses why now more than ever independent directors are important to captive insurance company governance

All organisations manage risk. Some manage risk better than others. All face a certain amount of risk not adequately treated by its current enterprise risk management (ERM) process giving rise to residual risk. The need to assess and manage residual risk is a cornerstone of ERM. Some would say that residual risk is an ERM opportunity to increase enterprise value.

A captive insurance company (captive) is a strategic risk management tool used by many organisations to manage risk and address residual risk. For example, the 2001 terrorist attacks on the World Trade Center in New York City focused risk managers’ attention on the impact that a single event can have on multiple exposures across the enterprise. This event highlighted the need for a mature ERM programme to manage the interdependency of risk and the resulting residual risk. Captives are an essential strategic ERM tool that continue to evolve as organisations address an evolving and increasingly complex risk environment.

The independent director, if responsibly managed, will provide the necessary stability needed for innovative and effective captive insurance programmes.”

Michael Zuckerman, Temple University

Captives are also privately held companies not generally subject to the same regulatory scrutiny as its publicly owned parent, for example. Single parent and group captives, however, are owned by public, private, and nonprofit organisations. A common thread among all captives regardless of its parent(s) legal structure is the obligation to manage the captive following best governance practices and standards that exceed regulatory compliance.

Some captive managers apply Sarbanes Oxley (SOx) principles to the management of a privately held captive to ensure that the proper controls are in place to prevent fraud, enable accurate financial reporting, and provide a superior level of governance. Moreover, there are multiple layers of captive regulation such as the domicile regulations, captive manager’s financial reporting and compliance, actuarial loss forecasting and reserve certification, and the external audit. Why then is so much being written about the need for independent directors on captive boards?

The importance of independent directors for captive regulation and operation is growing, in part, because it can increase the likelihood that the captive parent(s) (member insured) will achieve its risk financing goals. Independent directors have proven successful in improving the member insured’s governance. Why not provide the same benefit to the wholly-owned insurance subsidiary, the captive?

Successful organisations, for-profit or not for profit, are focused on meeting the needs of its stakeholders. To this end, organisations are focused on meeting environment, social, and governance (ESG) standards because it is the right thing to do, and will also improve an organisation’s reputation, value, and access to capital. A captive’s stakeholders include its member insureds third party claimants (customers, visitors, or patients), regulators, reinsurers, and service providers, among others. I would argue that the captive’s stakeholders also include the member insured’s investors, employees, vendors, credit rating agencies, community, and regulators. And all of them would have an interest in the successful operation of the captive. The captive’s highest priority, therefore, is to protect the financial security of its member insureds increasing stakeholder value.