Casualty Loss Reserve Seminar Session Number 7 Workers Compensation Reserving: How Do You Slice the Cake?

1. Casualty Loss Reserve Seminar Session Number 7 Workers Compensation Reserving: How Do You Slice the Cake? September 19, 2000 Panelists: Tracy A. Ryan, FCAS Associate Actuary - Liberty Mutual Group Mark J. Mahon, FCAS Consulting Actuary - MBA, Inc. Moderator: Timothy L. Wisecarver, FCAS President - Pennsylvania Compensation Rating Bureau Delaware Compensation Rating Bureau, Inc.

2. Why Do You Slice the Cake? Factors Affecting Decisions Concerning Data Organization • Availability • Credibility • Homogeneity • Emergence Patterns • Settlement Patterns • Development Patterns • Loss Frequency • Loss Severity

3. Slices Related to What Item(s) Are Being Reserved • Benefits vs. Loss Adjustment • Medical Benefits vs. Indemnity Benefits • Medical-Only Benefits vs. Medical Benefits on • Indemnity Claims • Vocational Rehabilitation vs. Other Indemnity Benefits

4. Slices Related to Who Administers The Item(s) Being Reserved • Branch Office or Region • Business Unit (within an Insured or Self-Insured Risk) • Case Reserver(s) • Insurance Company • PPO/CCO Arrangements vs. “Market” Medical Providers • Producer • Reinsurance Arrangements (Assumed vs. Ceded vs. Direct Business • Self-Administered Losses vs. TPA or Other Vendor-Administered • Voluntary Market vs. Assigned Risk (Services vs. Direct Assignment)

5. Slices Related to Rules Applicable to the Item(s) Being Reserved • Deductibles (Large vs. Small vs. None) • Jurisdiction (i.e., USL&HW, FELA, State Act, etc.) • State of Coverage (for State Act Benefits)

6. Slices Related to Special Features of the Insured(s) • Industry Group (or Classification(s) ) • Large Accounts vs. Other Policies • Anomalous Accounts vs. Other Policies • Loss-Rated vs. Guaranteed Cost Policies • Participating vs. Non-Participating Policies

7. Slices Related to Known or Anticipated Features of Item(s) Being Reserved • Large or Catastrophic Losses vs. Other Claims • Layer of Loss • Open Cases vs. Closed Cases • Traumatic vs. Occupational Disease • Type of Injury (Death, Permanent/Temporary, Total/Partial, • Medical Only)

8. Workers Compensation Reserving How Do You Slice the Cake? Mark J. Mahon, FCAS, MAAA MBA, Inc.

9. It’s Easy to Want the Data - Receiving It Is Not So Easy • To Start - Keep Things Simple • Follow the Client’s Operations • Why Do You Want the Data? • Time Consuming and Expensive

10. Traumatic vs. OccupationalDisease (Black Lung) • Coal Mine Compensation Rating Bureau of Pennsylvania.

11. Traumatic vs. Occupational Disease (Black Lung) • Comparison of OD to Traumatic • Cumulative • Long Report Time • Claims take time to Adjudicate • Lifetime Benefits • Low Frequency/High Severity

12. The OD System • Frequency times Severity.

13. The OD System • IBNR Claims • Uses Typical Accident Year Triangles • Claims assigned to Year based on Last Date of Exposure • Claim Count Development used to estimate IBNR Claims

14. OD Frequency • Three Pieces • Known Claimants Receiving Benefits at the valuation date (Awarded Claims) • An Estimate of Pending Claims that will be Awarded • An Estimate of IBNR Claims that will be Awarded

15. The OD System • Awarded Claims

16. OD Severity • Life Tables • Lifetime Benefits • Claimant’s Age • Annual Benefits • Marital Status • Escalation (State - No, Federal- Yes)

17. OD Severity • Life Tables used to Model Future Benefits

18. OD Severity • Act 57 • Only Claims Filed After Mid 1996 • WC Benefits Reduced for Social Security • WC Benefits Reduced for Pensions • AMA Guidelines Made it Harder To Achieve PT Disability Status

19. The OD Reserve • Three Pieces • Known Awarded Claims: • Sum of Each Claimant’s future payments from severity model • Pending Claims: • Pending Claims x Award Ratio x Average Severity of Pending Claims • IBNR Claims: • IBNR Claims x Award Ratio x Average Severity of Awarded and Pending Claims

20. OD System - Concluding Remarks • Lifetime Payments/Long Tail • Relatively Few Claims • Parallels Actual Process • Reviewed by Interested Parties • Expensive • Is This Really the Only Way to Make Estimates?

21. Traumatic - Indemnity vs. Medical • Very Common Split • Also Breakdown Medical into Medical Only and Medical on Indemnity • Different • Development • Inflation • Law Changes

22. Tail Factor -Inverse Power Curve

23. Tail Factor -Relate to Larger Body

24. Tail Factor -Decay Factor

25. Traumatic Losses By Injury Type • Death, Permanent Total, Permanent Partial and Temporary Claims • Proportion of Losses by Injury Type • Act 57 Impacts Largest Claims • Severity Subsequent to Law Change should be Smaller

26. Traumatic Losses By Injury Type • Act 57 Also made it Easier to Settle Claims • Fewer Claims Being Reported as PT • Retroactive - Existing PT’s Settled and Reclassified • Incurred Loss Triangles Double Count Impact of Settlements • Paid Triangles Overstate Impact

27. Traumatic Losses By Injury Type • Permanent Total Claim Count Development

28. Traumatic Losses By Injury Type • PT Count Development after Act 57

29. Traumatic Losses By Injury Type • Safety Program Impact • Drop in Number of Injuries • Shift to less Severe Accidents

30. Losses in Higher Layers • Be Careful - Reserves in Higher Layers may be Inadequate • Loss Development Under Estimates Higher Layers in Most Recent AY • Immature years don’t yet have any big losses • Change in claims handling • Historically there are no Higher Layer Losses in layer but because of new severe classes or inflation new losses are expected

31. Losses in Higher Layers • Latest Years’ Lower than Historical

32. Losses in Higher Layers • Immature Years has No Losses

33. Losses in Higher Layers • Use Industry Statistics to Fill-in Excess Losses • Payroll x Loss Cost x Excess Loss Factor • As AY matures rely on actual data more and more • For Insurers Do Gross, Ceded and Net Separately

34. Losses By Business Segment • Many Self-Insureds have Different Operating Units • E.g., Construction vs. Shipbuilding • Financial Data Already Split • Usually Easy to get Actuarial Data as Coding already there

35. Losses By Business Segment • Many Self-Insureds have Different Operating Units • E.g., Construction vs. Shipbuilding • Financial Data Already Split • Usually Easy to get Actuarial Data as Coding already there • Data by Jurisdiction • USL&H Benefits Higher than State Benefits

36. Combining Data • Increases Credibility for Companies with Sparse Data • Provides a Guide to Overall Level • Use Combined Data as Minimum as usually the Sum of the Slices are greater than the Total • Less Variation in Total • Smaller Slice with Tail muted by Larger Slice without Tail • Shifting Losses to Longer Tail Slice

37. Keeping Score • Purpose of Slices - Improve Reserve Estimation Accuracy • Keep Tabs on your Estimates - Keep A Scorecard

38. Keeping Score

39. Workers Compensation Reserving How Do You Slice the Cake? Tracy A. Ryan, FCAS, MAAA Liberty Mutual Group

40. Workers Compensation Reserving • Large Dollar Deductibles • Primary vs. Excess • Unique Accounts • Industry Segments • IBNR Rule of Thumb

41. Workers Compensation Large Dollar Deductibles Net Written Premium 40 35 30 25 $ Billions Impact of Deductibles 20 15 10 90 91 92 93 94 95 96 97 98p Calendar Year p Preliminary

42. Workers Compensation Large Dollar Deductibles Loss Ratio Large Dollar Deductible First Dollar (1) (2) Loss $ 75 $ 15 Expense 25 $ 23 $ Premium $100 $ 38 Loss Ratio 75% 40%

43. Workers CompensationLarge Dollar DeductiblesExample *Assume deductible level remains the same each year. *Average deductible implies excess loss is 20% of ground-up loss. *Numbers are illustrative only.

44. Workers CompensationLarge Dollar DeductiblesExample Total incurred if all remains as first dollar business

45. Workers CompensationLarge Dollar DeductiblesExample Total first dollar + LDD incurred

46. Workers CompensationLarge Dollar DeductiblesExample

47. Workers CompensationLarge Dollar DeductiblesHow to Calculate Ultimate Loss? • Develop losses net of deductible • Develop gross losses and apply a loss elimination ratio • Apply an expected loss ratio to premium • Use a Bornhuetter-Ferguson approach Sounds Easy … Right??

48. Workers CompensationLarge Dollar DeductiblesHow to Calculate Ultimate Loss? • Develop Losses Net of Deductible • Highly Leveraged Loss Development Factors • Changing Retentions Over Time • Develop Gross Losses & Apply a Loss Elimination Ratio • Selecting the Loss Elimination Ratio • Changing Retentions Over Time • Apply an expected loss ratio to premium • Selecting the Expected Loss Ratio • Use a Bornhuetter-Ferguson approach • See above ...

49. Workers CompensationLarge Dollar Deductibles Educate your customer (risk manager, underwriter, internal management, etc.) on the peculiarities of net deductible loss - Severity of Excess Claims - Reporting and Payout Pattern of Excess Claims - Potential for Catastrophic Claims - Leveraged Impact of Inflation

50. Liberty Mutual WC Claims Greater than $500,000 Percent of Total Reported ClaimsDollars 0.05% 9%