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Key Takeaways:
- Complete risk retention is when an organization takes on the potential loss from risks instead of transferring it through insurance.
- This strategy can be seen as aggressive self-insurance.
- While this method may save on insurance costs, it could be disastrous if a severe uninsured event occurs.
- Businesses need to weigh the potential losses they may face and consider whether it’s worth to take on the risk themselves or transfer it to an insurer.
- Other strategies such as risk avoidance, transfer, mitigation, and exploitation can also be employed as alternatives to complete risk retention.
What is Meant by Complete Risk Retention?
In the world of risk management, ‘complete risk retention’ is a strategy where a company, aware of the risks it faces, consciously decides to absorb all potential losses. This approach is seen as a form of aggressive self-insurance, where the business shoulders the costs and damages resulting from crises, accidents, or other unexpected incidents. This approach essentially means that the company finances its own risk.
The decision to either self-fund losses or use an insurer requires a detailed assessment of the potential losses a company could face. Companies may seek out insurance coverage for substantial or unpredictable risks, such as damage from natural disasters, while choosing to self-insure other, more manageable types of risk.
Understanding the Risks and Rewards of Complete Retention
Opting for complete risk retention can be a calculated gamble. On one hand, a business may save on insurance premiums, avoiding the costs associated with transferring risk. On the other hand, if a catastrophic event occurs that’s not covered by insurance, the company could face enormous losses, potentially jeopardizing its survival.
It’s a balancing act – organizations need to evaluate their financial health, the nature and extent of the risks they face, and their capacity to bear potential losses. When making such evaluations, businesses often employ risk assessment tools and methodologies to ensure informed decision-making.
Exploring Complete Risk Retention Through an Example
Let’s consider a manufacturing company that owns several warehouses. One potential risk could be damage to the warehouses due to severe weather conditions. The company could decide to self-insure this risk, establishing a reserve fund for the repair and maintenance of the warehouses. It has essentially chosen to retain the risk, as it believes that the cost of regular insurance premiums would exceed the expenditure on occasional repair work.
Considering Alternatives to Complete Risk Retention
While complete risk retention is a bold strategy, there are alternatives that allow a more balanced risk management approach:
- Partial Retention: Here, the company transfers a portion of the risk to an insurer in exchange for a premium, often responsible for a deductible or any losses exceeding the insurance coverage.
- Risk Avoidance: This involves changing plans to eliminate a risk entirely, particularly useful for risks with potentially significant business impact.
- Risk Transfer: This strategy involves transferring the risk to another party, often through insurance. This is commonly employed in multi-party projects.
- Risk Mitigation: This approach focuses on reducing the impact of a risk, making it easier to manage if a problem occurs. Hedging strategies are common forms of risk mitigation.
- Risk Exploitation: This strategy involves harnessing positive risks. For instance, if a product’s popularity leads to an inability to keep up with sales, the risk can be exploited by hiring additional sales staff.
Businesses should remember that while complete risk retention can lead to cost savings, it may also expose them to potentially significant losses. The choice of risk management strategy, therefore, requires careful consideration and should be part of a comprehensive risk management plan.
