Total Cost of Risk



Not all risks can be handled by writing a check to an insurance company.



 It’s the same process year after year.  120 days before your insurance renewal, you begin to get phone calls asking you to “quote” your insurance.  You pick two other agents and ask them to come in look at the policy and quote.  The process is time consuming and when the proposal come in, you try to understand everything and since you may not have a full grasp on the proposals, you make your decision on what makes sense to you, the lowest price.


To most, paid insurance premium is the cost to handle business risk.  Unfortunately, insurance premiums are only a portion of the annual costs that you incur when dealing with risk.  To only look at insurance premiums, puts blinders on management and prevents them from seeing solutions that would impact the bottom line.  Sometimes it’s due to business norms (We always do it that way.) or the idea that loss control is too expensive or inefficient.


It’s time to adopt a new manta, one that is more encompassing that just the premiums you pay; Total Cost of Risk.   Total Cost of Risk is the sum of all costs and expenses associated with risk and the management of risk within an organization.  All of these cost should be included when calculating the real cost of risk management.  


Here are the areas that make up Total Cost of Risk.

Insurance cost 

These costs are the premiums you pay for insurance.  If you receive dividends for performance and good loss history, I would apply the dividend to the year the dividend was earned.  

Retained losses

These are payments from the company to a third party to satisfy a claim outside of the insurance premiums.  These would include things like

1. Deductible payments made to a carrier.

2. Known retained losses.  Losses you decided not to purchase insurance for and had to pay out of pocket.  This is a result of risk tolerance and the business environment a client is operating in.  For instance, an Amish implement manufacturer that sells to other Amish may decide to self-insure based on the community’s belief not to sue.  A business owner may decide to not cover the physical damage of older vehicles based on their insurance value.  

3. Unknown retained losses.  These types of retained losses can be expensive and could interrupt the continuation of a business based on the size of the loss.  Emerging risks, such as cyber liability, identity theft and employer practice, were very expensive to company’s that didn’t know that there business was exposed.  Contractors, being sued for faulty workmanship or contractual liability, typically have the backstop of insurance removed.  If they don’t understand contracts or how a liability policy works, it could lead to unknown retained losses.

Risk management department expense or the internal cost to manage you business risk.

Some businesses are large enough to have a risk management department that can coordinate all of the areas of business risk that a company would face.  In smaller businesses, there can be a separation of duties.  The controller may be reviewing contracts while the operations manager is giving the task of managing loss control and safety.  Some of the payroll for these team members should be added to the Total Cost of Risk.  

Outside service fees

These are costs and expenses paid to third parties to manage your risk.  Most think of safety equipment and training costs as outside service fees.  Legal fees for contract review, random drug testing, pre-employment physicals, fire-prevention and other associated costs should be included as well.

Indirect cost

This can be the most expensive area when calculating the total cost of risk.  How much revenue is lost or deferred because a foreman of a construction company was careless, was looking at his phone, had an accident and injured himself and three of your most productive employees, leaving them unable to work for six weeks?  How much overtime is incurred to make a product when an skilled worker is injured and someone else has to do that team member’s job?  How much revenue or market share is lost when a product fails and the response to the failure does not meet the public’s expectation?  These are costs associated with a loss that are not covered by insurance.  Your injured workers are made financial whole through workers compensation, but your business suffers.  Your customer’s injury from a product you made is covered by insurance, but you still suffer with lower sales because the injury was public and many have lost trust in your brand.


Don’t focus on just insurance premiums.  An investment in safety equipment may seem expensive, but the savings to possible unknown retained losses or indirect costs may make the investment a great one.  Attorney fees are expensive, but if a review of the contract removes a clause that could cause serious harm to your business, it makes a good investment.