What does the Total Cost of Risk mean to you?

  • The Total Cost of Risk is a concept that helps organisations understand what is at stake when they embark on new projects and ventures
  • Many organisations understand the theory behind the Total Cost of Risk – without understanding how it applies to them
  • We discuss how considering the Total Cost of Risk can help organisations better manage the risks they face

Every organisation, regardless of its size or complexity, must consider its objectives, and the risks that could prevent these being achieved. Getting to grips with the ‘Total Cost of Risk’ can help makes these objectives a reality.

“Total Cost of Risk is the all-embracing cost of your risk,” explains David Forster, Head of Risk Proposition, Zurich. “It includes all your insurable risks and all your uninsurable risks.”

Uninsurable risks will vary from organisation to organisation, but they could include reputational damage, political risk, regulatory change and supply chain failure. “Uninsurable risks can represent up to 80% of all the risks that could threaten an organisation,” says David.

Why understanding the Total Cost of Risk is so important

In order to succeed, organisations should have a clear understanding of their risk appetite – the amount of risk they are prepared to accept in the pursuit of new opportunities.

“Risk appetite is something we discuss a lot when introducing the concept of Total Cost of Risk to our customers,” says Rod Penman, Head of Sales, Zurich Municipal. “Because if you don’t know what your Total Cost of Risk is, how can you understand how much risk you want to take?”

Understanding and calculating the Total Cost of Risk

While some organisations understand the theory behind the Total Cost of Risk, many are unsure how it relates to their own organisation.

“Organisations which are really sophisticated in their thinking will look at Total Cost of Risk as the downside of an opportunity,” says David. “When they look at a business case for a project, or an investment, they will systematically go through all the potential rewards and all the potential risks, and everything will be costed, in order to build a picture of what that risk means to the organisation as a whole.”

Aligning differing views of risk

One of the challenges risk managers face is that their view of risk may differ to that of their chief executive. Whilst risk managers may focus on operational risk – how a loss might occur, what the size of that loss would be – a CEO would be focussed on the wider strategic issues relating to that risk, including the impact on the reputation of their organisation, and possibly even their own reputation.

“You need a decent risk management framework to align the different viewpoints of risk managers and chief executives, for example, a risk register that everybody understands and buys into,” says David.

“If everybody shares the same sense of where an organisation is heading, it becomes easier to align the different views of risk. And, if organisations are able to consider the bigger picture, rather than just the insurable or financial costs of a risk, it’s indisputable that they will manage the risks they face much better.”

Total Cost of Risk in the procurement process

Considering the Total Cost of Risk may help organisations to avoid focussing too heavily on price at the expense of other, equally important considerations, during procurement.

“Understanding the Total Cost of Risk will lead to outcome-focused procurement, rather than a process-led exercise,” says Rod. “In one version, you know what it is that you want and need; in the other, you are following a route which could bring you to a result that you don’t actually want but which the process has forced you into.”

As an example, Rod describes the process many organisations adopt when evaluating insurance tenders.

“Often, organisations will look at the headline price first and foremost, and the non-price factors, such as the support they will get from their insurer after a major loss, will get a far lower weighting.

“However, the major incident support might save an organisation several million pounds; for an academy, small business or charity, it could make the difference between being up and running in three months or the recovery taking a year.”

How Zurich helps organisations to manage risk at every level

The risk management support Zurich can offer extends from key strategic risks to front-line operational risks.

Rod says: “We cover every part of the spectrum, not just the top-level, strategic risks. At the operational level, we can help customers by offering support from parts of our proposition that are often unseen, in addition to helping customers understand their claims experience, the claims experience in their sector, and how they would be supported after a major incident.”