Branch Office Profit Measurement for Property – Liability Insurers

Effective measurement of financial performance for individual branch offices is hindered by two major problems. The first is an appropriate definition of profit; this is addressed through an economic-value accounting method which minimizes distortions due to the timing of income recognition. Return on equity is the basic profitability gauge used to compare results between profit centers. The second problem is that, in comparing results between branches, different levels of risk will produce an uneven chance of error in measuring true performance vs. reported results. This problem is addressed through techniques which equalize systematic risk (by implying an equity value) and non-systematic risk (through internal reinsurance), for each branch. To develop the internal reinsurance concept, a Poisson claim frequency and a Pareto claim severity model is constructed. Finally, in order to recognize the credibility of each profit center's actual experience, a compromise is made to the equal-variance principle. The analysis concludes that branch office profit measurement is best served when the branch network has minimal variation in size and product mix.