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Advantages of a Captive
The major benefits that the establishment of a captive brings to its
parent can be divided into two main categories, financial and insurance.
Financial Advantages
- Reduced Insurance Costs
A captive can reduce
the overall cost of an insurance programme by retaining the premium
for the expected losses thereby avoiding the premium loading for
a commercial insurer's overheads and profits on this element of the
overall premium.
- Improved Cash Flow
Reserves for unpaid claims
and unearned premium, otherwise kept by a commercial insurance company,
can be held by a captive and invested. This takes advantage of an
insurance company's ability to establish such reserves from pre-tax
income that is not possible for a non-insurance entity.
- Matching of Revenue and Expense
With some types
of coverage, particularly liabilities to third parties, losses may
emerge over a number of years. A captive is able to reserve from
current funds for future claims payments, thereby matching revenue
and expenses attributable to each financial year.
- Performance Measurement
A captive is a trading
subsidiary of its parent for which financial statements are prepared
and consolidated with its parent's. Thus, the financial impact of
the parent company's risk management programme can more easily be
monitored and evaluated and the captive's performance measured in
terms of return on investment or other financial criteria.
- Source of Additional Revenue
A captive can expand
its book of business by offering insurance to related third parties,
such as franchisees, vendors or customers, thereby generating an
additional revenue stream for its parent. Some captives also write
coverage for unrelated third parties through participation in various
reinsurance pools or treaties.
Insurance Advantages
- Coverage for Risks Not Usually Insurable
A captive,
answerable only to its parent, can provide insurance cover that is
not available in the commercial market or not available at a realistic
premium.
- Reduced Need for Commercial Insurance
As a captive
matures and its net worth grows, it becomes capable of retaining
a greater proportion of its parent's risks. The increased use
of a captive diminishes the parent's dependence on commercial insurance.
This helps a company to escape the insurance cycle of rising and
falling premiums experienced in the commercial market.
- Improved Negotiating Position
As
the captive's ability to absorb risk grows; it improves the parent's
negotiating position with insurance and reinsurance markets.
- Flexibility in Programme Design
A captive provides
opportunities to more easily structure insurance programmes since
the captive is not subject to the same constraints and conventions
normally evident with traditional insurers.
- Broader and Simpler Insurance Contracts
A captive
is usually domiciled where there is little, if any, regulation concerning
policy wordings, thereby allowing specifically tailored insurance
and reinsurance contracts.
- Better Risk Management Programme - A captive
facilitates:
- the design of allocation systems to distribute
costs more equitably among profit centres,
- the implementation of uniform accounting procedures,
- the accumulation of actuarial information,
- the design of more effective claims handling,
loss control and engineering programmes and
- the unification of the application of risk management
throughout all divisions or subsidiaries.
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