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HoneywellProduces control systems for industrial processing and heating and air-conditioning products Market leader with 53.000 employeesManaging operations in 96 countriesSales of $7.3billion and net income of $402millionCase ProblemExiting Program :Proposed Program :

Different types of risks handled separately by different departemens

Enterprise risk management handling all risk within a single porfolio

Should Honeywell proceed with the new integrated risk management program?

Comparison Of old vs New ProgramExiting Program :Different types of risks handled separately by different departemensProposed Program :Enterprise risk management handling all risk within a single porfolioComparison of savings & protectionExiting ProgramProposed Program% ChangeTotal Retained Loss27.545.73726.135.432-5%Premium Paid11.236.008.509.000-24%Total Expected Cost of Risk39.781.73734.644.43211%Standar Deviation of Total Cost od Risk15.793.8793.819.568-76%Why Are these savings possible?Combining the deductibles allocating funds in line with immediate needsNetting off diverse risks offsetting risks that are mutually exclusiveHow Can insurers provide such discounts?Reduction in risk goes both ways since volatility is reduced, the premium required will fallCompetitive pressures large firms have a greater capacity to self insureThe possibility of taking over all accountsWhy are these savings possible?Combining the deductibles allocating funds in line with immediate needsNetting off diverse risks offsetting risks that are mutually exclusive

How can insurers provide such discounts?Reduction in risk goes both ways since volatility is reduced, the premium required will fallCompetitive pressures large firms have a greater capacity to self insureThe possibility of taking over all accounts

Why should Honeywell adopt IRM?A similar approach already effectively adopted for mitigating currency risksPlans for expansion in the futurePotential for furher cost reductionsSynergiesEfficiency improvements through reduced complexityStrengthening competitive position through pioneering the new approachWhat needs to be done?Reorganizing the different risk management teams into one cohesive unitsSetting new roles & responsibilitiesObtaining employee supportHoneywell, IncMarket leader with 53.000 employeesManaging operations in 96 countriesSales of $7.3billion and net income of $402millionProducer control systems and product air conditioning for incommercial buildings and avionics system

Risks Faced by Honeywell

Problem StatementTradionally Insured (i.e Hazzard) RisksTreasury - Insurance Risk Mgmt. UnitCurrency RisksTreasury - Financial Risk Mgmt. UnitOther Financial (interest rate, credit and liquidity) RisksTreasury - Financial Risk Mgmt. & Capital Markets UnitPension Fund RiskFinancial Dept.Operational RiskOperating UnitsCredit RiskOperating UnitsEnvironmental RisksHealth, Safety and Environment Dept.Legal RisksOffice of General CounselMarket RisksMarketing Mgmt.Problem StatementCapital market unit which managed the Capital structure and Liquidity riskCash management unit managing the cash requirementsFinancial risk management unit which managed the Currency ,Interest rate r and Credit riskCurrency hedging operations were independent of any other hedging or insuring carried out in other parts of the firmUsed at-the-money options Used basket-option of 20 currencies that matured quarterlyThese 20 currencies represented 85% of HWs foreign profitsProvided protection when UD$ strengthened against the currency basket

Problem StatementInsurance risk management unit which managed risk generally covered by insurance.Used separate annually-renewable insurance policies for each type of insurable risksEach policy had specified deductible (retention) in an amount ranged between 0 and $6 millionHW would absorb losses up-to retention level before calling insurance company for any claimEach loss was subject to separate retentionHW paid a new deductible for each loss that occurred

New Risk Management ProgramFirst of its kindProvided combined protection against HWs currency risks along with other traditionally insurable risksMulti-yearInsurance basedIntegrated risk management programWould extend its innovation into the financial arena

New Risk Management ProgramFeatured included :Traditionally insured risks should be consistent with currency risk management programMonthly cross-functional meeting to interact with two groups to understand the others tasksMulti-specialty team: insurance unit + currency risk management teamAll members were named as member treasury management team

New Risk Management ProgramChallenges to the program include:New program to provide..,Equal or greater level of earnings protectionTotal cost is less than existing program costsFlexibility to incorporate additional risks in the future Comply with all accounting standardsFinding optimal risk management structure

Integrated Risk Management Program

Specific risks covered in the program included :Global general liabilityGlobal products liabilityGlobal property and business interruptionsGlobal fidelityGlobal employees crimeGlobal ocean marine transit Global political riskDirector and officer liabilityUS auto liabilityUS workers compensationForeign currency translationAviation product liability (covered under a separate $1 bn per occurrence policy)

Analysis of the alternatives:Expected LossMeanStd Dev. Of Expected lossExpected cost of riskStd Dev. Of cost of riskValue of Insurance under different probability of risk14%50%84%General Liabilities12.28.512.54.1-4.7-0.34.1Property1.15.54.54.50-3.4-2.4Worker Compensation11.22.511.22.1-0.400.4Auto4.34.454.1-0.9-0.7-0.4D&O, Side B0.34.40.40.80-0.13.5Currency Risk43.350-4.3-12.3Individual Risk Management value-10.3-5.57.5ConclusionThe proposal of integrated insurance policy gives better benefits than individual risk management. It minimizes cost of risk and stabilizes earnings while forcing consistency in risk management in different segments of risks and addressing specific needs of different risks. So, Honeywell should go for new policy of risk management.

Integrated risk managementAdvantagesMinimizes cost of risk when probability of risk approaches to 50%Provides higher level of earnings protection by minimizing variability in earningsDisavantagesBeing first firm to introduce this innovation, firm runs in risk of innovationBrings down coverage significantly

Individual risk managementAdvantages-Meets needs of individual risks by providing customized solution for each riskNo risk of relying upon single insurance provider as it has flexibility to distribute risk of insurer to different playersHigher risk coverage as it has higher limits for different risks whose total is much larger than new options $ 100 millionDisadvantages Higher cost of risk as probability of risk approach to meanPays higher premium