A Case Study: ERM Implementation at Erie Insurance

1. A Case Study: ERM Implementation at Erie Insurance Gene Connell, Senior Vice President – Actuarial Erie Insurance Group Casualty Actuarial Society Spring Meeting – June 2007

2. Chief Actuary’s perspective on ERM • Background: Who is Erie Insurance? • Regional • Independent Agents • Reciprocal • 3.8 million policies • $3.8 billion net written premium • $4.3 billion in surplus • $10.0 billion in invested assets • 22nd largest P/C insurer in US

3. ERM is a hot topic • MS Office • Doesn’t recognize ERM • Does recognize “hooey” • Google: • “ERM” has 10,700,000 hits • “Hooey” has 483,000 hits "ERM + hooey" has 708 hits

4. ERM is not well defined • General Counsel – compliance • Internal Audit – controls • Actuaries – DFA • Risk Managers – path to becoming king of the world

5. ERM Goal: Increase the Mean and Reduce the Standard Deviation Corporate Earnings

6. Return Risk Level ERM Goal: Increase the Mean and Reduce the Standard Deviation Efficient Frontier Analysis

7. ERM Identifies/Measures Risk Events Corporate Earnings Adverse Loss Development Lackluster New Business Interest Rate Hikes Agency Defection Major Catastrophe Fraud/Scandal

8. Adverse Loss Development Lackluster New Business Interest Rate Hikes Agency Defection Major Catastrophe Fraud/Scandal ERM Identifies Strategies to Control Risk Corporate Earnings Absorb, reinsurance Rate reduction, technology Hedge, reallocate Compensation, technology Reinsurance, reduce exposure Audit

9. Adverse Loss Development Lackluster New Business Interest Rate Hikes Agency Defection Major Catastrophe Fraud/Scandal ERM Optimizes Risk Management Corporate Earnings Absorb, reinsurance Rate reduction, technology Hedge, reallocate Compensation, technology Reinsurance, reduce exposure Audit

10. Brief History of ERM at ERIE • I was asked by CEO to “do ERM” • Board inquiries • Magazines and consultants: “hot topic” • Created a “risk universe” • Did high level risk inventory • Senior management and Board involved • Easy part

12. Management Technology Innovation Infrastructure Change Readiness Product Distribution Performance Gap Product Development Measurement Partnering Competitor Budget & Planning Board Catastrophic Loss Technology Innovation Infrastructure Change Readiness Business Interruption Competitor Leadership Pricing Performance Gap Product Distribution Comparison of Top Ten Lists

13. Organizing for ERM at ERIE • Have CEO, Board support • ERM Steering Committee • Executives: COO, CFO, and General Counsel • Internal auditor and Chief IT officer • ERM Working Group • Representatives from investments, underwriting, risk management, accounting, actuarial, planning, internal audit, IT • Consultant to help keep things moving

14. ERM Governance Structure Board of Directors Executive Mgt. Team ERM Steering Committee Senior Mgt. Team ERM Working Group Divisional ERM Reps. ERM Responsibility ERM Facilitation & Support

15. } Hooey - real value ERM Working Group Deliverables • Governance Structure • Policy Statement • Framework • Education, Tools and Metrics • Periodic Reporting • Board Audit and Strategy Committees • Ad hoc depending on Board’s concerns over risk areas or ERM Committee’s need for direction

16. Actuarial’s role in ERM at ERIE • Chair the ERM Steering Committee • Pricing uncertainty (range of indications) • Loss reserve uncertainty (range of estimates) • Dynamic Financial Analysis • Reinsurance Evaluation and Decision Support • Economic capital concepts • ERM process and reports

17. Dynamic Financial Analysis (DFA)

18. Reinsurance Alternatives

19. Capital Adequacy of P/C Operations Policyholder Surplus in millions

20. Capital Adequacy after Terrorism Policyholder Surplus in millions

21. Capital Adequacy w/o Home Policyholder Surplus in millions

22. Source of Variation in Policyholder Surplus 3 Year Projected Change in PHS

23. ERM Process and Reports • Huge potential impact on company • Improve decision making by incorporating financial discipline • Risk identification and measurement • Response prioritization and measurement • Clearing house of risks and responses • Reduce redundancy • Sleep at night list for CEO, Board - lots of value !

24. My Opinion on ERM • At this time: • ERM is overblown • Expectations are too high • Those of us who have to deliver ERM find that no one has done it well yet • Easy to spend $$$ and resources • Easy for it to be a bureaucratic drag

25. My Opinion on ERM • BIG plus: Getting company to consider the potential downside as well as upside of any initiative • ERM is potential antibiotic for “PowerPoint disease” • This alone has enough potential to pay for ERM headaches

26. Actuaries are well-positioned to be effective ERM officers • Quantitative skills • Financial knowledge • Understanding of stochastic methods • Familiar with translating business needs into models • Actuaries particularly well suited for insurance industry ERM positions

27. Watch Out For: • Overlooking the many, critical non-actuarial aspects • Resource drains • It takes skilled staff; it is not trivial • Reactions of rest of company • Another bureaucratic headache • Silos unwilling to give up their autonomy • Unrealistic expectations Hooey

28. ERM is Today’s Reality • ERM is a wave sweeping through the industry • A big wave – it will not pass on by • Ride it, don’t fight it