By Kyle Beatty
The latest report from the World Economic Forum (WEF)1 presents a sobering view of the future. As the WEF founder and executive chairman wrote, "The signals are already apparent with the rebalancing of the global economy, the presence of more than 7 billion people, and the societal and environmental challenges linked to both. The resulting complexity threatens to overwhelm countries, companies, cultures, and communities."
Natural disasters (predominantly weather) were the number one trigger of supply disruptions and spikes in market demand in 2011 and 2012. The 2012 edition of the WEF report includes a special section on the Japanese earthquake that occurred on March 11, 2011. The event caused a tsunami that killed 20,000 people, "ruining the lives and livelihoods of thousands of others and destroying over 100,000 buildings."
Damages from extremes of the natural environment and increasingly volatile weather are now recognized as a critical concern to a wide range of businesses and government at all levels.
Damages from extremes of the natural environment and increasingly volatile weather are now recognized as a critical concern to a wide range of businesses and government at all levels. Primary insurance companies are experiencing misalignment between risk profile and rate structures. Weather-dependent businesses are experiencing greater volatility in revenues, affecting the management of their businesses and creating concerns for their investors. Suppliers are experiencing severe and unexpected disruptions to their facilities or the services they depend on, significantly affecting their earnings. Critical infrastructure effects are revealing complex, interconnected consequences, multiplying the financial and economic cost of disasters. National defense and local governmental policies are being adapted to adjust to the increased stresses on populations and the increased demands to protect life and property.
Until now, it's been difficult to locate climate data and analytics that are easy to use and relevant at the company level. Thus today, many firms focus their analysis and mitigation on resilience, regulatory compliance, and cost reduction. While effective, those approaches ignore opportunities for new revenue streams through better service to customers.
How would reframing the problem and tapping into new combinations of data and analytics turn emerging climate and environmental risks into business opportunities for insurers, manufacturers, and their customers and partners?
The demand is growing in organizations to understand weather, climate change, and their effects using data, analytic, and software solutions. The goal is to mitigate the negative impact and capitalize on opportunities.
The demand is growing in organizations to understand weather, climate change, and their effects using data, analytic, and software solutions. The goal is to mitigate the negative impact and capitalize on opportunities ahead of competitors. Today, many medium-size organizations rely on low-tech solutions to help manage their merchandising departments or to inform their business continuity practices. Many large corporations have developed climate practices; however, they often limit their focus to short-term positions relative to commodity markets. Commodity price fluctuations are creating instability in the price of raw materials; extreme weather is producing greater volatility in customer demand; and disruptions to second- and third-tier suppliers are affecting earnings.
The earthquakes in Japan and New Zealand, the floods in Thailand, and the effects those events had on the supply chain have made business interruption a focal point for many businesses and insurers. Across numerous industries, companies are beginning to invest in documenting and optimizing their supply chain interdependencies. That has created the need to invest in supply chain risk analysis to minimize potential downtime of tier-one and tier-two suppliers and distributors.
Examples abound: Restoration companies and building material manufacturers could better help business owners recover after each event if they're able to access data to improve demand forecasting so they're more confident of the staffing and materials available in affected regions. Electric power disruptions due to Hurricane Sandy affected 8 million businesses and households across 12 states. It's now possible to predict electric power disruptions due to environmental and weather hazards. That information can enable businesses, hospitals, and governments to relocate staff and resources to unaffected areas and have a better sense of the potential duration of an outage. Site-engineering risk assessments can help companies obtain a reliable, defensible, and transparent view of the true risk to exposed assets and make informed decisions about financial and physical risk mitigation; insurance and reinsurance purchasing; and responding to changes in exposures across physical property, operations, and supply chains.
U.S. personal lines insurers have experienced anomalously high loss ratios because of climate-related events over the past five years, a time when investment income was also anomalously low. Organizational inefficiencies have exacerbated those effects, resulting in homeowners combined ratios in excess of 100 percent in several segments of the U.S. market. The demand is high to use new data and analytics to decrease the cost of service and balance price adequacy with future risk. Today, organizations rely upon the "rear-view mirror" of their prior losses to guide their efforts at the enterprise level. Only selected divisions, such as reinsurance, have used predictive modeling technologies to inform their strategies and operations. Insurance claims departments have access to much less sophisticated technology.
That said, insurers can benefit from risk management analytics that quantify the financial effects of climate and environmental extremes and from solutions that reframe operational and financial risks as opportunities.
Kyle Beatty is president of Verisk Climate, a division of Verisk Analytics. Verisk Climate focuses on enterprise climate risk management to help insurers, corporations, and governments increase resilience and transform climate and environmental risks into opportunities for improving services to their customers and stakeholders.
1. Global Risks 2012, Seventh Edition, World Economic Forum 2012.