Insurable Project Risks - by Sarah

MODULE: PROJECT RISK & DISASTER
MANAGEMENT
Insurable project Risks
17th January 2023
UMI, Kampala
Dr. Sarah Khanakwa
BA(SS), MPA, MPH, MBA, PhD A Social Scientist & Fundraising
(UKZN) Professional, with more than 15 years'
experience in setting up, managing
and mobilizing resources for
development programs, particularly in
public health.
Core areas of expertise;

•New Business Development;
•Strategic Project Planning,
Management & Implementation;
•Resource Mobilization (Fundraising);
•Monitoring & Evaluation;
•Systems Strengthening;
•Operational Research; and
•Individual & Organizational capacity
building.
Associate Consultant
[email protected]
0772515840
Outline
• Defining insurance
• Insurable risk meaning
• How insurance works
• Insurable and non-insurable risk
• The law of large numbers
• Asymmetric information
Insurance Definition
• Insurance is a means of protection from financial loss or against a
possible eventuality (negative risk) in which, in exchange for a fee,
a party agrees to compensate another party in the event of a
certain loss, damage, or injury.
• It is a form of risk management, primarily used to hedge/shield

against the risk of an uncertain loss.
• Insurance is designed to protect your company or project against

an insurable risk, or the likelihood of a loss.
But it's important to understand that even the most
comprehensive insurance policies don't cover every type of risk
4
A general principle of Insurance:
Is to insure against loss or damage

where the identified risks and exposures
through professional Risk Assessment
and Risk Management can not be
eliminated or satisfactory mitigated.
5
Basic Characteristics of Insurance
Risk pooling:
•Risk transfer from individual/project to a pool of the insurance
company’s policyholders.
•The company charges premium for accepting risk
•It ‘pools’ premiums from a group of policyholders into a general fund
to fund the death benefits under contract.
Law of large numbers:
•Larger the pool, more predictable the amount of losses in a given
period.
•Since not all members of the pool are the same age or in the same
health condition, we can assume not all of them will be making a claim
at the same time. Certified Financial Planner
IPDET © 2009 6
Insurable risk meaning
• Insurable risk means a risk, which can be covered by insurance.
• An insurable risk is covered by an insurance company or the state.

These risks include a wide range of losses due to unexpected and unintended
events, such as client lawsuits, accidental property damage from fire or theft,
and medical bills for workers injured on the job, etc.
• For a risk to be acceptable by an insurer, it has to be a “pure risk”

which means it has the downside of the effect only (opportunity for
loss only), speculative risks (e.g. Gambling and investing in the stock
market) are not covered by traditional insurance.
• Insurable risks have to be sudden and accidental, with statistics

available for insurers to simulate past events and generate a
creditable premium.
IPDET © 2009 7
Requirements of Insurable Risks
• Sufficient number of homogeneous exposure

• The loss must occur by chance
• The loss must be definite
• The loss must be significant
• The loss rate must be predictable
• The loss must not be catastrophic to the insurer
IPDET © 2009 8
Example: of construction projects
• Construction insurance is a major method of managing risks

in the construction industry.
Its primary function is to transfer certain risks from clients,
contractors, subcontractors and other parties involved in the
construction project to insurers to provide contingent funding in
time of difficulty.
E.gs of construction industry risks can generally be
classified to; Performance risks, Construction risks, Legal
risks, Financial risks and Physical risks
• However, insurance sometimes doesn’t receive the
attention it deserves because practitioners do not have a
clear understanding of risk allocation and the strategy of risk
management through insurance.
9
Uninsurable risks
• The losses covered under insurance policies differ among insurance

companies.
For the best protection, it's wise to select the broadest coverage you can
afford.
• However, no insurance company will cover every risk.

Some losses are simply impossible to value or too costly, too probable, or too
susceptible to manipulation. These are known as uninsurable risks.
• For example, most “errors and omissions” insurance policies won't

cover you if a client sues you for not paying a bill or for stealing a
customer or employee. And, of course, any allegation related to a
criminal act or intentional wrongdoing on your part is generally
uninsurable. For instance, if you intentionally damage your own
property or injure someone, your insurance coverage won't apply.
10
Insurable and uninsurable project risks
• Consequential losses are generally uninsurable.

Let's say you're sued for a mistake you made while providing
services to a client. Your policy will likely cover that. But if you
lose that client as a result of your mistake and go out of
business, those losses aren't covered.
• Insurers also won't insure risks that are considered inevitable,

such as providing property insurance to an entity when a wildfire
is burning just miles away. Additionally, they don't cover gradual
damage related to maintenance or wear and tear, such as an old,
leaky roof.
IPDET © 2009 11
Requirements of Insurable Risks
For a project risk to be insurable, it typically must meet some criteria
i.e. main elements of insurable risk: "due to chance," definiteness
and measurability, statistical predictability, lack of catastrophic
exposure, random selection, and large loss exposure.
•Sufficient number of homogenous exposure
• There must be a sufficient number of insureds subject to the same risk, so that all
policyholders’ combined premiums can share in the cost of any losses – but it must be
unlikely that all policyholders will suffer a loss at the same time.
•The loss must be significant - potentially costly enough that a project
is willing to pay a premium to protect against it.
•The risk can’t be so catastrophic that the insurer would never be able
to pay for the loss.
•The loss must well-defined and has a clear, measurable value that
can’t be influenced by the policyholder.
•The loss must occur by chance - not within the policyholder’s control,
and the policyholder cannot cause or influence the loss.
12
Risks and Exposures to a Project
Risk / Exposure Insurable?
Physical damage yes
Time schedule delays no
Damage to Third Party yes
Damage to the Environment yes, sudden and accidental
Design Errors yes but limitations
Financial losses certain exposures only
Performance Guarantees no
Anders Lindberg, If P&C Insurance 13

How does insurance work?
A contract!
1. Insured pays a premium
and transfers his financial risk
2. Insurer pays the financial

losses or eventuality suffered
by the insured (indemnity) in
case of unforeseen events
How does insurance work?
• When you buy commercial insurance, you pay premiums to your insurance
company. In return, the company agrees to pay you in the event you suffer
a covered loss.
• Based on historical information, insurance providers can predict the
probability of a risk for a large group of insured people and estimate the
average cost of the risk
• For example: Illness is unpredictable and need for treatment is uncertain,
so individuals cannot predict their future health care expenditure
What drives the premium for a specific Project?
Exposure Driving parameters
Type of Project Potential for large and/or

frequent Losses
Size of Project Capacity requirements
Prototypes Unproven design, technology

and/or material
Location Rock and Soil conditions
Geology
Storm, Flood, Earth Quake...
Capacity shortage!
16
Law of large numbers
• Insurance takes all the risks in a group and puts them into a
pool
• Not all insured persons claim their benefits at the same time
• Contributions paid by all insured members are used to
compensate for the financial consequences of the few
persons who experience the risk
Limitations of project insurance coverage
Whether insurance can be used as a solution depends on:
•The insurability of the risk
•The adequate and tailored policy - Even within the same
policy, different types of covered losses may have different
limits or exclusions. There may also be limits on the total
amount of covered losses that an insurer will pay.
•Some types of high-risk occurrences may be covered, but
only up to predetermined dollar limits.
•The trust and confidence of insurers about their
creditworthiness and claim service.
•No other alternative risk transfer solutions available.
19
Advantages and Disadvantages of
insurance in handling project risks
Advantages:
•Services rendered to the insured who suffer covered losses
•Permits lengthening planning horizons
•Continuity of project in operations at or close to the same rate as before the
accident
•Allows the project to accept more uncertainties in other areas
•May contribute to improved performance
Disadvantages:
•Insurance does not cover all the financial consequences of insured events
•Insured events is likely to increase the incidence of non-insured events
•Insured may benefit, but society does not
•Exaggeration or false reporting
•Lax attitude towards loss control
20
Legal Principles of Insurance
• Insurance – contractual agreement between the insurer and

the insured
• Should meet all the requirements of the valid contract:
• Offer and acceptance – free consent by both parties
• Consideration – binding force in the contract
• Legal capacities of parties – parties to the contract
must be capable of entering a contractual agreement
• Purpose of contract should be legal and not contrary to
public interest – presence of insurable interest is a
must
IPDET © 2009 21
Legal Principles of Insurance cont…
• Indemnity – the insurer will make good the loss/damage so that

financially, the insured is neither better or worse off as a result of the loss
• Insurable interest – the insured should stand to benefit by the safety of

the property – insurable interest should be throughout the period
• Utmost good faith – the law requires all contracts all contracts to be
made in good faith – in absence of fraud and deceit
• Subrogation – transfer of rights and remedies of the insured to the

insurer who has indemnified the insured
IPDET © 2009 22
Asymmetric information
Adverse selection
• The insured entity/project conceals information that places them in a
high-risk bracket
• Thus, average risk of the insured group increases and premium rises
• Ultimately, low-risk people quit and high-risk people are left in the
group
 E.g. Bob must undergo a surgery within the next 10 months
and joins a health insurance scheme, knowing that the
operation will be covered when the waiting period is over2
Moral hazard
• The insured person/project takes risks and is careless about their
safety, knowing that they are protected from financial losses
 E.g. Jenny has a good insurance policy and goes to see her
general practitioner, allergist, gynaecologist and
dermatologist at least once every month
Ways to minimize adverse selection and moral hazard
• Establish mandatory insurance, so that high-risk and low-risk
people are members of the risk pool
• Exclude predictable events such as planned surgeries from the
benefit package
• Implement co-payments and limitations, e.g. maximum
number of days of hospitalization, health expenditure
reimbursement up to a maximum level
• Establish long waiting periods
• Put in place control mechanisms like pre-authorization of
high-cost planned surgeries
Know your insurance policy
• Be sure you understand your specific policy benefits, as well as what

isn’t covered. With the exception of property coverage, the
insurance company will generally not write a check to reimburse a
customer (an insured) for their losses.
26
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MODULE: PROJECT RISK & DISASTER

Core areas of expertise;

• It is a form of risk management, primarily used to hedge/shield

• Insurance is designed to protect your company or project against

Is to insure against loss or damage

• Insurable risk means a risk, which can be covered by insurance.

• An insurable risk is covered by an insurance company or the state.

• For a risk to be acceptable by an insurer, it has to be a “pure risk”

• Insurable risks have to be sudden and accidental, with statistics

• Sufficient number of homogeneous exposure

• Construction insurance is a major method of managing risks

• The losses covered under insurance policies differ among insurance

• However, no insurance company will cover every risk.

• For example, most “errors and omissions” insurance policies won't

• Consequential losses are generally uninsurable.

• Insurers also won't insure risks that are considered inevitable,

Time schedule delays no

Damage to Third Party yes

Damage to the Environment yes, sudden and accidental

Design Errors yes but limitations

Financial losses certain exposures only

Anders Lindberg, If P&C Insurance 13

and transfers his financial risk

2. Insurer pays the financial

Type of Project Potential for large and/or

Size of Project Capacity requirements

Prototypes Unproven design, technology

• Insurance – contractual agreement between the insurer and

• Indemnity – the insurer will make good the loss/damage so that

• Insurable interest – the insured should stand to benefit by the safety of

• Subrogation – transfer of rights and remedies of the insured to the

• Be sure you understand your specific policy benefits, as well as what

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