By DAN REYNOLDS, senior editor
From his command post on Main Street in downtown Los Angeles, Victor Parker oversees risk management for the city and its three behemoth authorities, the Port of Los Angeles, the Los Angeles World Airports and the Los Angeles Department of Water and Power, the largest authority of its kind in the country.
Even on a good day, Parker has a daunting task. The reach of the three authorities nominally under his command is immense. They affect the lives of millions of people, and the authorities control property worth billions of dollars. The only practical way for Parker to oversee these authorities is by delegating risk management powers to subordinates.
Parker can read the fine print, and he grasps the central message of publicly funded studies that draw pictures of what life would be like if the authorities could pool their purchasing power for property risk coverage. For starters, it would save taxpayers millions of dollars in premium. In a way, Parker is very much part of the Southern California landscape. Already tall, handsome and athletic-looking, it wouldn't hurt Parker's image in the eyes of Antonio Villaraigosa, the city's ambitious and business-oriented mayor, if Parker could win over his risk management peers and initiate a pooling program.
Standing between Parker and an estimated $4.6 million in annual savings in property premiums through pooling arrangements are Parker's powerful deputies, insurance and risk managers who see their jobs as running a government agency in the broadest sense of the word.
"Their philosophy is much more akin to a quasi-government agency, and they can look at it that way, whether they are a port, an airport or a utility," Parker says.
Parker has made entreaties encouraging pooling, but usually he's met with the door ajar. "Their response is that they do what they do and 'We can procure insurance on our own, thank you very much,' " says Parker.
The agencies have their own staffs and budgets and respond to appointed boards. Perhaps most important, the agencies have their own revenue streams derived from fees and service charges. Who is Parker to tell the airports or the water and power department what to do?
Individual risk managers are responsible for buying and structuring the agencies' insurance programs. Parker communicates with and advises those departmental risk managers, but has no line authority over them. No surprise, then, that the risk managers in charge of those agencies aren't shy about asserting their independence.
"We kind of have our act together a little bit more than the city," says Avery Neaman, the risk manager for the Los Angeles Department of Water and Power. Forgive him for being boastful. This is a man whose municipal utility covers 464 square miles, operates on a $5 billion budget, employs 8,500 workers, and supplies the needs of more than 4 million people. In 2007-2008, his department transferred $175 million to the city's general fund.
Neaman has $10 billion in insured infrastructure, with coverage of about $500 million. Deductibles range from $2 million for the department's larger facilities like water filtration plants, for example, down to $100,000 for smaller structures like pumping stations, the 7,200 miles of pipe that make up the district's distribution system, and the city's 59,000 fire hydrants.
The risk managers insist that they are best suited to evaluate the individual risks facing their respective authorities, not a manager located in a central office in downtown Los Angeles. "Each one of us is more familiar with our own industry than the city so to speak in terms of what we do and how we do it," says Kathy Merkovsky, the risk manager for the Port of Los Angeles which handled nearly 6 million containers in 2007.
Merkovsky's office is 23 miles south of Los Angeles, in the port town of San Pedro. Between the tons of dry bulk, the liquid goods, and the refrigerated cargo that pass through the port's channels and docks, and the tens of thousands of passengers boarding cruise ships there every year, Merkovsky helms a heavy risk portfolio. Port-owned property carried a value of $1.36 billion in fiscal 2005-2006, according to a report commissioned by the Los Angeles Mayor's Office. That year, the port recorded losses of $9.84 million.
While it may be true that individual risk managers like Neaman and Merkovsky are best suited to evaluating the risks facing their respective authorities, it is also true that they are salaried public risk managers, paid by taxpayers to balance the risk of service interruptions to residents with the amount of premium paid to insure that risk.
And in the five-year period between 2001 and 2006, the city spent $130 million on insurance premiums, nearly 10 times the $14 million paid out by insurance companies to reimburse Los Angeles for losses sustained over that period under the policies, according to a study by Aon's Irvine, Calif.-based alternate risk financing subsidiary ARM Tech.
That's because Los Angeles had relatively few losses, and the city's insurance programs applied over large deductibles and self-insured retentions. "During the five-year period reviewed, the city experienced few large losses," writes Michael M. Kaddatz, managing director of ARM Tech, who authored the report. "Thus, during this period, the city has contributed substantially to the profitability of its insurers."
And what's wrong with that? Nothing ... unless you're Mayor Villaraigosa and want to tighten the purse strings of public spending.
The ARM Tech report recommends that the airports, the port, the convention center and the city's equipment leasing and financing arm, known as the Municipal Improvement Corporation of Los Angeles, individually self-insure for losses of up to $100,000 in the primary insurance layer.
For losses in the middle layers, between $100,000 up to $2 million, the report suggests a model based on a jointly financed self-insured program. For losses north of $2 million up to $1.5 billion, the study suggests a model based on jointly purchased commercial insurance.
The study, conducted in 2006, went on to conclude that through a pooling arrangement, the water and power department would save $2 million, the airports $1.7 million, the port $300,000 and the city's general fund $600,000 annually. In addition, pooling the risks facing the convention center and the equipment leasing and financing unit through a property program across all the departments could cost an estimated $13.2 million in premiums, down from $17.8 million. That's a combined annual savings of about $4.6 million in the property program alone.
(The structure of the insurance program makes the pooling of liability risks a far less attractive economic model.)
"Regardless of design refinements, it is common in our experience with governmental risk pools that savings of 10 percent to 25 percent can realistically be sustained over the long term," writes Kaddatz. "The city can gain other material advantages of taking this pooled approach to property insurance."
Pooling the property risks of Los Angeles' quasi-independent authorities ... are you nuts? Never going to happen, according to doubters of such initiatives.
While it's true that pooling the risks of disparate property programs represents an easy mathematical savings avenue for the city and its taxpayers, executing such a plan at every turn involves people, money and politics at the local, state and federal levels, according to Sally Choi, a former deputy mayor.
FAA regulations governing Los Angeles International Airport, for instance, prevent the airport authority from mixing airport revenues into the city's general fund, says Choi. The city also has to investigate whether California's Tidelands Trust laws, which regulate waterfront and port activities, will allow the port to engage in insurance pooling arrangements with the city.
Accurate loss and claims data is also difficult to come by, particularly with the water and power department, and the port, according to Kaddatz.
The city's legal department is also going to have to be brought on board. "While no one questions the office's ability to defend claims against the city, its systems do not easily serve other risk management needs. Case reserves are not established on most claims," the report states.
The difficulties facing Los Angeles when it comes to pooling risk are ironic. It was California in the 1970's that was the birthplace of public risk sharing pools, which continue to this day. California still leads the nation in such pooling arrangements, according to ARM Tech. Over the past 25 years, as many as 150 government agency pools have been formed there.
The bulk of these pooling arrangements have been successful, says Kaddatz. They've spread the risk and have done so with economic efficiency across a huge state with a variety of exposures.
Gary Martin, a senior consultant for Bickmore Risk Services, says midsize-to-larger cities like Santa Ana, with more than 353,000 people, and Anaheim, with more than 345,000 people, both located south of Los Angeles, are typically the most receptive to pooling arrangements.
When the cities get much larger, they are unlikely to pool. New York City, which prefers to follow a strategy of self-insurance, doesn't even bother with pooling at all.
"When you get real large, I would say that your medium-large cities on down traditionally pool," he says. "Cities like Santa Ana, Anaheim, they have been pooling for quite some time but then you get some of these real larger cities that traditionally have not fit very well into pooling scenarios."
Why not? If the issues facing the municipal pooling arrangements in Los Angeles, San Francisco and San Diego are not much different than anywhere else, according to risk management experts, why aren't larger cities and the public authorities that serve taxpayers more receptive to pooling?
"It's turf wars," says David Marcus, managing director of Arthur J. Gallagher's national public entity practice. Marcus works with Florida's Broward County Public Schools, which with its 55,000 employees and 258,000 students is the sixth largest public school district in the nation. "They all have their own way and they don't want anybody else to be telling them what to do," says Marcus.
Yes, perhaps. But the drawbacks to pooling arrangements are also well-documented. Risk managers fear the loss of decision-making authority, the loss experience among different departments is often uneven, underwriting risks are unique to the individual authorities, long-term commitments and coverage subtleties that apply to a particular authority disappears in the mix of broader pooling arrangements.
Parker himself recognizes the advantage of separate departments, each with its own bank of expertise, buying insurance to cover its own unique risk. "I don't think it's a bad thing," says Parker.
"In reality a lot of these entities see that they're giving up independence to take instruction from some other parties who might not even be part of their organization," says Keith Grand, a vice president in the national public entity practice of Marsh Inc. in San Francisco.
What benefit or incentive is there for a risk manager of a billion-dollar authority to give up his or her financial independence when the reward for doing so comes only once every 20 or 30 years in the form of coverage for a $50 million or $75 million loss, asks Grand, the former risk manager for the city and county of San Francisco.
When quasi-independent public authorities like the ones serving Los Angeles have their own sources of revenue, and when the appointed board members of those authorities respond to a myriad of constituencies, it's very difficult for "central command" to exert any kind of authority, say risk pooling consultants. "You can do all the studies in the world, but getting these larger cities and some of their authorities to work together can be difficult," says Bob Bookhammer, a Dallas-based senior vice president of Wachovia Insurance Services Inc.
Another reason for shying away from such arrangements has more to do with inertia. The excuses "It's going to take some time to do this," says Bookhammer, and "I've always done it this way," are code for please refrain from sticking your nose in my business. "There are agencies that have been very comfortable doing things their way for quite a while," says Susan Blankenburg, senior vice president at Marsh in San Francisco. "When you get to these larger-sized cities it is very difficult to find a group that really all bring the same exposures to the table."
Convincing insurance managers to join a risk pool is easier if the other risk entities in the pool have similar goals and values, says Bookhammer, as it makes it easier to share resources and allocate premiums to insure the same class of risk. The Los Angeles Water and Power Department, for example, is a participant in Aegis, a utility industry mutual insurance company. For Parker that's good news because it means there may still be an opportunity for pooling among the authorities in the future.
Parker is hopeful that the Los Angeles utilities will one day join a pool with the city. The economies of scale are undeniable, and if there's one state with experience in pooling mechanisms, it's California. "I do think there are opportunities to work together," says Parker. "We are a $6.8 billion entity and they are (combined) an $8.4 billion organization. It would seem to me that there would be economies of scale."
Circumstances may eventually force Los Angeles' municipal authorities in that direction.
Merkovsky's department, for example, has been asked to triple the size of its police force over the next two years and at the same time reduce workers' comp costs.
A class-action lawsuit against the mayor's office and the Los Angeles Police Department charging that the police used unnecessary force against demonstrators seeking more rights for immigrant workers, may also serve as the catalyst necessary for Los Angeles to reconsider its municipal pooling arrangements.
Will that kind of "shock hit" bludgeon the city and its authorities into a communal pooling arrangement? Given the politics involved, that's unlikely. But at least Parker stands to benefit through more help from his risk managers. "They listen to me a lot more now because the mayor is backing it," says Parker.
December 1, 2008
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