Adjustments Needed?

Editor's Note: This article is part of a series written by members of the CAS Committee on Professionalism Education (COPE) and the Actuarial Board of Counseling and Discipline (ABCD). The opinions expressed by readers and authors are for discussion purposes only and should not be used to prejudge the disposition of any actual case or modify published professional standards as they may apply in real-life situations.

The Actuarial Review's May Professional Education article begins with the same scenario as our last issue. One will see that hiring a different actuary leads to a different professional issue.

Frugal Insurance Company (FIC) initiated operations in 2002 specializing in providing general liability, including construction defect coverage to the construction industry. FIC insureds range from individual contractors to moderately sized construction companies. Given the limited number of competitors, FIC has grown rapidly with 2005 written premium exceeding $75 million. Since the inception of the company, FIC has relied on their consulting actuary, Carla Calculator, FCAS, MAAA, to provide the required ratemaking and reserving support. Carla served as FIC's appointed actuary through year-end 2004. Due to an effort to reduce costs and a conflict with Carla, FIC made the decision to hire their first and only in-house actuary.

After an eight-month search, FIC offered this in-house position to Kristen Konservative, FCAS, MAAA. Kris started with the company on November 1, 2005. Prior to joining FIC, Kris spent her entire career in the reserving department of GLRUS Insurance Company.

In order to be completely objective, Kris begins her year-end reserve analysis by doing an independent review without consideration of prior methodology or selection. She has several years of experience determining general liability reserves while with GLRUS. Since she still has a copy of her last reserve analysis with GLRUS, Kris knows the development pattern selected for GLRUS's construction business unit reserves and is very confident in her analysis. After completion, she compares her results to prior analyses completed by Carla. Kris discovers that her point estimate results are significantly higher than those from Carla's last review. Kris investigates further to find that throughout her analysis Carla's selections are what Kris considers to be the low end of a reasonable range. Although Carla used a tail factor, she selected a factor considerably lower than the tail indicated by the GLRUS data. Although Carla considered multiple methods, the method with the lowest indicated ultimate was selected for each policy year. After reviewing Carla's report, Kris returns to her analysis and projects a range of reserves which she feels are reasonable. Given the uncertainty associated with the coverages written, the range is quite large. FIC's carried reserves, which were based on Carla's analysis, are at the very low end of Kris's range.

Kris sets up a meeting with her boss, Peter Pressure, to recommend that FIC increase reserves. Peter clearly states to Kris that there is no reason to increase reserves.. He insists that Carla's reserve estimates were just fine.

Kris sets up a meeting with her boss, Peter Pressure, to recommend that FIC increase reserves. Peter clearly states to Kris that there is no reason to increase reserves. He insists that Carla's reserve estimates were just fine and states that Kris's analysis is not appropriate because it does not consider the fact that FIC's case reserves are much more conservative than GLRUS's reserves, particularly after FIC's recent emphasis on reserve strengthening (which he contends was not specifically considered in Kris's analysis). Peter tells Kris to forget about a reserve increase and issue a clean opinion on the current carried reserves since they are within her range of reasonable estimates. However, Peter is concerned with more than just a clean opinion. He knows that the new Actuarial Opinion Summary is going to show that the booked reserves are at the low end of the range, which he feels will reflect poorly on the company. Peter expresses this concern to Kris and instructs her go back to her analysis and select in the same manner that Carla did. In directing her so, he reminds Kris that her range analysis showed that Carla's assumptions were not unreasonable. Peter concludes the meeting by telling Kris to come back with a point estimate reserve similar in magnitude to those from past reviews.

Kris attempts to contact the claims department, but the handler for the construction business claims is on vacation and won't be back until after Kris's next meeting with Peter.

Should Kris adjust her selections as Peter instructed?

No
If Kris changes her selections, as Peter has indicated, she is not providing her best estimate for reserves. Peter is obviously making excuses for why the reserve should be lower. She should rely on her experience in this line of business, not the comments of a manager who is likely to have other motives for lowering reserves. Carla clearly made her selections such that the final reserve estimate would be as low as possible. This cannot be accepted as reasonable. Lowering her selected reserve to anything other than her best estimate is clearly violating the actuarial standard of practice for loss reserving, #36. This, in turn, is a violation of Precept 3 of the Code of Professional Conduct, which states: "An Actuary shall ensure that Actuarial Services performed by or under the direction of the Actuary satisfy applicable standards of practice." In addition, she will be violating annotations 1, 2, and 4 of Precept 1 of the Code of Professional Conduct (Professional Integrity). They are as follows:

• Annotation 1-1. An Actuary shall perform Actuarial Services with skill and care.
• Annotation 1-2. An Actuary shall not provide Actuarial Services for any Principal if the Actuary has reason to believe that such services may be used to violate or evade the Law or in a manner that would be detrimental to the reputation of the actuarial profession.
• Annotation 1-4. An Actuary shall not engage in any professional conduct involving dishonesty, fraud, deceit, or misrepresentation or commit any act that reflects adversely on the actuarial profession.

Yes
Peter has been managing this line of business at FIC for many years and he knows it well. His suggestion that Kris's tail factor may be too high and that reserve strengthening has made her analysis inaccurate, is reasonable, especially since she did not talk to anyone in the claims department before completing her analysis. She should not assume Peter is being dishonest. Although Carla's selections were all low, they were all indicated in the analysis and within the range of reasonable reserve estimates.

There is no way to know if Kris's estimate is closer to the true reserve than Carla's was. Carla may have chosen the lower end of the range for good reason. Perhaps she had performed additional analyses that considered the reserve strengthening and indicated that the lower selections were the best selections. Choosing a reserve in the lower end of the range of reasonable estimates is not a violation of any part of the Code of Professional Conduct. Kris needs to be more open-minded and realize that she is not always right. After that, she should go back to her analysis and make the suggested adjustments.