Tag Archives: UBS

An Underestimated Source of Risk

When directors or CEOs or senior managers think about risk, they generally envision risks associated with the company’s finances, manufacturing, data, supply chain and customers. Human resource risk is often underappreciated, and that can be a serious misjudgment. Recent events, lawsuits and settlements prove this point.

It is true that the risk associated with talent and a lack thereof has risen in the risk hierarchy of most organizations. However, the many other serious risks associated with managing existing talent are often relegated to the bottom of the risk register.

The reasons for this underestimation are varied. Many executives tend to think that: 1) human resource matters are supplemental to the business rather than integral, 2) being an “employer at will” protects the company and enables it to make human resource decisions however it sees fit, 3) a single employee, applicant or retiree is no risk to the organization as a whole (even though a single employee can potentially cause a “class” to be formed under the law). The danger inherent in underestimating HR risk is that it does not get adequately addressed with mitigation plans.

Not all organizations will have the same exposure to risks. Even if they did have the same exposure, some will have more safeguards already in place and warrant a lower risk ranking than some other organization. The discussion that follows is not meant to imply that all HR risks must be prioritized at the top right hand corner of a heat map. It is meant to highlight the potential impact that some HR risks can have on an organization.

Rogue Employee Risk

The rogue employee is one of the most amazing phenomena among human resource risk categories. In financial services, rogue employees have wreaked havoc on otherwise solid and long-standing businesses. Two noteworthy examples are Barings Bank, London’s oldest merchant banks, and UBS, one of Switzerland’s financial giants. Roughly 20 years ago, Nick Leeson, a Barings Bank derivatives trader, gambled away the equivalent of $1. 4 billion of bank money from a secret “error” account. The bank went bust and was bought by ING for a nominal sum. In 2011, UBS announced it had lost $2 billion due to unauthorized trades by a director at its global synthetic equities desk.

And financial institutions are not the only organizations exposed to rogue employee actions that create huge risks and large losses. For instance, GNP, parent of Just BARE and Gold’n Plump, just recalled 55,608 pounds of chicken because of what it called a “product tampering incident” at one of its processing plants.

Here are some of the ways in which such an employee can create risk in just about any industry sector and for which organizations need to develop safeguards as part of their mitigation plans:

  • Abetting a data breach affecting customer/employee personal data
  • Sabotaging mechanical or technological equipment
  • Sabotaging products intended for sale
  • Stealing company property, including intellectual property
  • Mishandling customers/patients on purpose

See also: Risk Management, in Plain English

A fundamental safeguard is thorough vetting during the employment process. Others include: 1) active supervision, 2) automatic, system alerts when authorities are exceeded or other rogue actions are attempted, 3) robust internal audits.

Regulatory Violations Risk

Organizations must deal with employee-related regulation at the local, state and federal level. The number of major federal regulations has grown significantly in the past few decades and now includes such well-known acts as: the Fair Labor Standards Act, Title VII, Age Discrimination Act, the Americans with Disabilities Act, Employee Retirement Income Security Act, Family and Medical Leave Act and WARN Act. Each of these has numerous elements that must be understood and complied with, including gray areas that need to be thought through before any action regarding an employee can be decided on.

The Fair Labor Standards Act has been the high-risk area of late. There have been numerous types of suits under this act related to: 1) misclassification of employees into exempt and non-exempt categories, which has implications for overtime pay, 2) incorrect calculation of overtime pay for those due it, 3) mismanagement of paid break time.

A $188 million judgment against Walmart, which is being appealed, had to do with paid versus unpaid break time. Interestingly, this case revolves around the company not living up to the policies in its own handbooks, not around a failure to fulfill specific requirements spelled out in the law. This case is, therefore, illustrative of two important points. First, settlements can be financially significant even for the largest of companies. Second, when dealing with human resource matters, formal programs or policies, which constitute a contractual obligation, have to be considered.

See also: Building a Strong Insurance Risk Culture

Wage and hour suits are likely to keep increasing in 2016 due to the success of recent plaintiffs, new regulations regarding overtime pay and an overall concern among employees that wages are not sufficient or not fair. In an article titled “Why Wage and Hour Litigation Is Skyrocketing,” Lydia DePillis writes, “The number of wage and hour cases filed in federal court rose to 8,871 for the year [ended] Sept. 30, up from 1,935 in 2000.”

Title VII and age discrimination cases have been associated with large dollar losses over the years. Given the many federal, state and local statutes, coupled with a more informed and litigious employee population, organizations can inadvertently step into non-compliance pitfalls rather easily.

Organizations should always follow the laws that apply to them. Risk enters into the equation because there is always the potential that someone in management is unaware or careless or, worse yet, disrespectful of the laws. Thus, the organization is continuously exposed to the risk of violations. Every effort should be made to be compliant, including: 1) having a clear set of core values that guide lawful behavior, 2) educating management and all employees about the laws and how to comply with them, 3) investing in strong compliance processes and 4) making sure violators are dealt with quickly and appropriately.

HR Program Risk

Human resources professionals create and administer many expensive programs such as retirement, benefits, compensation and incentive programs. A large error in terms of budgeting or managing such programs could lead to a sizable financial risk for the organization.

Imagine an actuarial error that creates severe pension underfunding or a poorly managed self-insured medical benefit plan that costs double what benchmarks would suggest. Or, consider a new incentive program that produces the antithesis of the behavior it was intended to promote. The risk can be major, not unlike the size and seriousness of a natural catastrophe or product recall or supply chain debacle.

CEOs need to ensure that HR programs and policies are being handled by expert professionals, whether staff or consultants. At the same time, senior management needs to invest the attention and support necessary to ensure these are well-designed and implemented according to specification.

The comments in this article are neither meant to be all-inclusive nor to be construed as advice.

Blockchain Technology and Insurance

What if there was a technological advancement so powerful that it transforms the very way the insurance industry operates?

What if there was a technology that could fundamentally alter the way that the economics, the governance systems and the business functions operate in insurance and could change the way the entire industry postulates in terms of trade, ownership and trust?

This technology is here, and it’s called the blockchain, best known as the force that drives Bitcoin.

Bitcoin has gotten a pretty bad rap over the years for good reason. From the collapse of Mt. Gox and the loss of millions –  to being the de facto currency for pedophilia peddlers, drug dealers and gun sellers on Silk Road and the darling of the anarcho-capitalist community – Bitcoin is not doing well in the public eye. Its price has also fluctuated wildly, allowing for insane speculation, and, with the majority of Bitcoins being owned by the small group that started promoting it, it ‘s sometimes been compared to a Ponzi scheme.

Vivek Wadhwa writes in the Washington Post that Chinese Bitcoin miners control more than 50% of the currency-creation capacity and are connected to the rest of the Bitcoin ecosystem through the Great Firewall of China, which slows down the entire system because it is the equivalent of a bad hotel Wi-Fi connection. And the control gives the People’s Army a strategic vantage point over a global currency.

Consequently, the Bitcoin brand has been decimated and is thought by too many to be a kind of dodgy currency on the Internet for dodgy people.

The blockchain, a core technology behind what drives Bitcoin, has been slow to enter the Zeitgeist because of this attachment to Bitcoin, the bête noire of the establishment.

But that is changing fast. Blockchain as a tool for disintermediation is simply too powerful to ignore.

People are now beginning to really look at the blockchain as an infrastructure for more than monetary transactions and what it has done for Bitcoin. Just as Bitcoin makes certain financial intermediaries unnecessary, innovations on the blockchain remove the need for gatekeepers from a number of processes, which can really grease the wheels of any business, including insurance companies.

How blockchain works and can work for the insurance industry

Because of the way it distributes consensus, the blockchain routes around many of the challenges that typically arise with distributed forms of organization and issues such as how to cooperate, scale and collectively invest in shared resources and infrastructures.

In the blockchain, all transactions are logged, including information on the date, time and participants, as well as the amount of every single transaction in an immutable record.

Each trust agent in the network owns a full copy of the blockchain, and, in the case of a private consortium blockchain (more relevant to the insurance industry), the transactions are verified using advanced cryptographic algorithms, and the “Genesis Block” sits within the control of the consortium.

The mathematical principles also ensure that these trust agents automatically and continuously agree about the current state of the blockchain and every transaction in it. If anyone attempts to corrupt a transaction, the trust agents will not arrive at a consensus and therefore will refuse to incorporate the transaction in the blockchain.

Imagine there’s a notary present at each transaction. This way, everyone has access to a shared, single source of truth. This is why we can always trust the blockchain.

Imagine a healthcare insurance policy that can only be used to pay for healthcare at certified parties. In this case, whether someone actually follows the rules is no longer verified in the bureaucratic process afterward. You simply program these rules into the blockchain.

Compliance in advance.

Automation through the use of smart contracts also leads to a considerable decrease in bureaucracy, which can save accountants, controllers and insurance organizations in general an incredible amount of time.

While the global bankers are far out of the blocks when it comes to learning, understanding and now embracing blockchain technology, the insurance industry is lagging. Between 2010 and 2015, a mere 13% of innovation investments by insurers were actually in insurance technology companies.

There are some efforts to tap innovation, as the Financial Times in the UK recently wrote. European insurers such as Axa, Aviva and Allianz, along with MassMutual and American Family in the U.S. and Ping An in Asia are setting up specialist venture capital funds dedicated to investing in start-ups that may be relevant for their core businesses.

Aviva recently announced a “digital garage’ in Singapore, a dedicated space where technical specialists, creative designers and commercial teams explore, develop and test new insurance ideas and services that make financial services more tailored and accessible for customers.

And others are sure to follow in the insurance industry, particularly because both the banking industry and capital markets are bullish on investing in innovation for their own sectors – and particularly because they are doing a lot of investment in and around blockchain.

Still, the bankers and capital markets are currently miles ahead of the insurance industry when it comes to investing in blockchain research and startups.

Competitors in the capital markets and banking industries in terms of blockchain solutions include: the Open Ledger Project, backed by Accenture, ANZ Bank, Cisco, CLS, Credits, Deutsche Börse, Digital Asset Holdings, DTCC, Fujitsu Limited, IC3, IBM, Intel, J.P. Morgan, London Stock Exchange Group, Mitsubishi UFJ Financial Group (MUFG), R3, State Street, SWIFT, VMware and Wells Fargo; and the R3 Blockchain Group, whose members include the likes of Barclays, BBVA, Commonwealth Bank of Australia, Credit Suisse, Goldman Sachs, J.P. Morgan, Royal Bank of Scotland, State Street and UBS.

Then there are start-ups like Ripple and Digital Asset Holdings, led by ex-JPMorgan exec Blythe Masters, who turned down a job as head of Barclays’ investment bank to build her blockchain solution for banking.

There are others in the start-up world moving even faster in the same direction, some actually operating in the market, such as Billoncash in Poland, which is the world’s first blockchain cryptocash backed by fiat currency and which passed through the harsh EU and national regulatory systems with flying colors. Tunisia is replacing its current digital currency eDinar with a blockchain solution via a Swiss startup called Monetas.

There are both threats and opportunities for the bankers… so what about the global insurance industry?

Every insurance company’s core computer system is, at heart, a big, fat centralized transaction ledger, and if the insurance industry does not begin to learn about, evaluate, build with and eventually embrace blockchain technology, the industry will leave itself naked and open to the next Uber, Netflix,  AirBnB or wanna-be unicorn that comes along and disrupts the space completely.

Blockchain more than deserves to be evaluated by insurers as a potential replacement for today’s central database model.

Where should the insurance industry start?

Companies need to start to experiment, like the bankers and stock markets, by not only working with existing blockchain technologies out there but by beginning to experiment within their own organizations. They need to work with blockchain-focused accelerators and incubators like outlierventures.io in the UK or Digital Currency Group in the U.S. and tap into the latest start-ups and technologies. They need to think about running hackathons and start to build developer communities – to start thinking about crowdsourcing innovation rather than trying to do everything in-house.

Apple, Google, Facebook and Twitter have hundreds of thousands of innovators creating products on spec via their massive developer communities. Insurance companies that don’t start lowering their walls might very well find themselves unable to innovate as quickly as emerging companies that embrace more open models in the future and therefore find themselves moot. Kodak meet Instagram.

The first step for insurance companies with blockchain technology will likely be to look at smart contracts, followed by looking for identity validation and building new structural mechanisms where parties no longer need to know or trust each other to participate in exchanges of value.

Blockchain technology, for instance, can also allow for accident or health records to be stored and recorded in a decentralized way, which can open the door for insurance companies to reduce friction in the current systems in which they operate.

Currently, the industry is highly centralized, and the introduction of new blockchain-fueled structures such as mutual insurance and peer-to-peer models based on the blockchain could fundamentally affect the status quo.

As comedian and writer Dominic Frisby once penned, “The revolution will not be televised. It will be cryptographically time stamped on the blockchain.”

Some of the many questions that the industry should explore:

  • What kind of effect will blockchain technology adoption in markets have on the the public’s perception of risk?
  • Today, the insurance industry is centralized, but what could it look like if it were decentralized?
  • How could that affect how insurance companies mutualize?
  • Can the blockchain improve customer relations and confidence?
  • Can smart contracts built on the blockchain automate parts of the process in how business is done in the insurance industry?

If you want to explore further, sign up to express interest here about our coming event in London: Chain Summit Blockchain Event for Insurance.