Negotiating the Hard Market with Member-Owned Group Captives

Captives, Construction & Real Estate, Property & Casualty

It’s an unfortunate reality: commercial insurance premiums have increased every quarter for the last three years.1 The first quarter of 2021 was particularly telling, as it marked the fourth consecutive quarter in which premiums increased for all lines – including workers’ compensation – and medium and large accounts experienced a combined/average of double-digit increases across all lines.2 The construction industry has been a direct casualty of this trend, with rising commercial auto, general liability, and umbrella premiums posing a challenge for nearly all contractors to navigate for the last several years.

As the insurance marketplace continues to harden with premiums rising and insurers’ capacity shrinking, construction companies need to think critically about their insurance program to find ways to mitigate some of these costs while retaining adequate coverage. One way that middle-market construction companies may attempt to mitigate costs is by considering whether an alternative form of risk financing is right for them, like member-owned group captives.

What is member-owned group captive insurance?

Simply put, a group captive is made up of various like-minded, entrepreneurial companies that come together to form their own insurance company. A group captive insures the risks of its members and offers them more control over their insurance and risk management program, more consistency from year to year, and a proven way to stabilize their cost of risk over time.

For example: in traditional risk financing, Company A works with Carrier A to attain coverage for various risks incurred by their business model. They may work with a broker to negotiate rates based on industry benchmarks and data analysis.

In a group captive model, Company A decides to team up with Company B and Company C (who have similar approaches to risk management and similar levels of risk) to self-fund their insurance. They are therefore more incentivized to work together to achieve higher standards of risk management in order to benefit the group as a whole. This benefits not only this group of companies, but also the entire industry.

What are some of the benefits of joining a group captive?

Selective process keeps you in control of your rates in a hard market

Companies that are permitted to join a captive have strong business cultures and care about their employees’ safety and welfare. As a result, the number and severity of their claims typically outperform their peers in the traditional insurance market. On the flip side, because companies with poor safety performance and loss history do not qualify for the group, their liabilities don’t drive up premiums for the members of the group like they would in the traditional insurance market. The result? Insurance premiums for the members of the group captive often remain steady or go down over time – even during a hard market.

One captive consultant, Innovative Captive Strategies, recently reported that its construction company members have seen dramatic combined/average rate reductions over the course of their lifetime in their captives, to the tune of -20.9% for workers’ compensation, -10.4% for general liability, and -1.0% for auto liability.

This trend holds firm even in hardening markets like the one construction companies are experiencing today. For example, in the second quarter of 2020 when insureds in the traditional market experienced a combined/average of double-digit premium increases across captive lines, members of the captive experienced a staggering combined/average 2.5% premium decrease.3

So, instead of operating within the hardening market and negotiating down to the wire for a reasonable rate, organizations in the captive are able to see the group’s risk at a glance and are rewarded for their performance with leading rates well ahead of their renewal.

Access to data allows you to make intentional risk management decisions

Another benefit of joining a group captive is the access to data and autonomy that this risk financing method allows. At the core, organizations who are members of group captives control their own destiny. They are able to dive deep into the data sets provided by the captive to slice and dice information and analyze the ways in which they can improve to not only create safer and healthier workplaces for their employees, but also to reduce their costs.

Unused premiums become dividends for captive members

One of the greatest advantages to group captives is that any unused premiums do not become underwriting profit for a third-party insurance company. Instead, because the members of the group captive are the insurance company, any unused premiums are returned to the members of the group captive in the form of a dividend for all lines of insurance, not just workers’ compensation.

In fact, each member of a group captive has the opportunity to receive up to 60- 70% of their premiums back depending on how well they perform. This benefit offers considerable incentive for members of the group to control their own risk, which creates a collective culture of safety and high performance.

Knowledge-sharing is common and expected in captives

Another incentive to join a group captive is to network and share best practices with other members. As co-owners of the captive, members have natural incentive to help each other perform. When the individual members succeed, the group does too.

Construction companies that join group captives already have strong track records of implementing safety and loss control protocols to keep their employees and jobsites safe. So, when these companies get together, they push each other to become best-in-class.

Who can join a captive?

While there isn’t a single, ideal profile for the companies that join a member-owned group captive, companies with the following qualities typically find the most success in the group captive model:

  • Entrepreneurial
  • Long-term financial strength and stability
  • Committed to loss control and strong safety programs in place
  • Loss history that are better than average
  • Annual workers’ compensation, general liability, and commercial auto premiums of least $150,000

What are common misconceptions about group captives?

Misconception #1: If we join a group captive, all of our company’s investment is at risk of being taken to fund the losses of other members.

While it is true that members of group captives share some level of risk through a concept called “risk sharing”, group captives are intentionally structured to keep the vast majority of each member’s investment separate and distinct from the exposures and claims of the other members. In fact, in many group captives, 97% of an individual company’s financial success is tied to their own performance. In other words, only 3% of an individual company’s investment is considered “at risk” of being shared with the other members in any given policy year.

Misconception #2: One or two catastrophic losses or a single member’s bad claims year could destroy the captive.

Some assume that because captives are a form of “self-insurance,” captives are responsible for paying every dollar of every member’s claims, and are therefore at risk of being destroyed by catastrophic losses or a single member’s poor performance. This is false.  While group captives self-insure a portion of the members’ collective and respective losses, each captive purchases reinsurance to cover catastrophic losses and to help the captive weather particularly bad claims years. This allows members to have the peace of mind that the group captive – including their investment in it – will be protected in the event the unexpected or unimaginable happens.

Misconception #3: If we join a captive, we will never be able to leave.

Another common misconception is that once you decide to join a group captive, you are stuck with it forever. But this is not the case at all. There are a number of options if for any reason you decide that a captive isn’t the best risk management tool for your organization anymore.

The Bottom Line

Group captives can be an excellent risk financing strategy for forward-thinking, entrepreneurial construction companies, particularly during the current hardening insurance market. While not for everyone, group captives can provide the opportunity, control, and stability that contractors have lacked in the traditional insurance marketplace, and represents a proven way to reduce their cost of risk over time.

Reach out to your M3 account executive to learn more about how member-owned group captive insurance could play a role in helping your organization navigate the hard market.

1 Q1 2021 P/C Market Report.

2 Id.

3 Source: Innovative Captive Strategies

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