Four Reasons for Private Equity Firms to Consider a Captive Insurance Program

By: Tony Hopkins and Mike Richmond

“An investment inside your investment.”

In today’s volatile market, private equity firms are constantly seeking innovative strategies to optimize returns while managing risk. One such strategy gaining traction is the adoption of captive insurance programs. Despite some initial reluctance, there are compelling reasons for private equity firms to seriously consider integrating captive insurance programs into their risk management arsenal. Here are four key reasons why.

#1: Cost-Effectiveness

Traditional insurance programs, with their fixed annual premiums, can often lead to inefficiencies, especially when losses are minimal, allowing the insurance companies to reap the rewards of strong performance.  In contrast, captive insurance programs operate on a “loss-sensitive” model, where premiums are directly correlated with losses incurred. This means that when a portfolio company performs well with lower losses, the premiums decrease accordingly. Over time, this profit-sharing mechanism can result in substantial cost savings, potentially ranging from 25% to 50% off traditional on premiums

#2: Stability Over Time

Captive insurance programs offer stability and predictability, qualities highly valued in the ever-changing landscape of private equity investments. Captive insurance renewals are almost always lower than the standard market.  By taking a proactive approach to risk management, firms can mitigate the impact of market fluctuations and external pressures on insurance costs. This stability fosters long-term financial planning and enhances overall portfolio performance.

#3: Better Risk Management

Captive insurance allows firms to take control of their risk exposure and tailor insurance solutions to fit specific needs. By retaining a portion of the risk, firms align their interests with those of the portfolio companies, fostering a culture of risk awareness and mitigation. Additionally, participation in captive programs often entails stringent risk control measures and regular attendance at safety workshops, leading to operational improvements and reduced claims frequency.

#4: Additional Asset and Deal Sourcing

Every private equity firm is interested in sourcing deals.  Being part of a group captive naturally allows you to network with business owners at the captive board meetings, typically held twice a year.  Beyond deal-sourcing and risk mitigation, captive insurance programs can serve as a valuable asset within a firm’s portfolio. Captives offer additional avenues for another profit center. Moreover, the accumulated reserves within captives can be leveraged strategically, whether through internal reinvestment, building a platform on a better insurance chassis or as negotiating leverage in an exit. This additional financial flexibility enhances the firm’s overall investment strategy and potential returns.

Final Thoughts on Captive Insurance Programs

In conclusion, while captive insurance programs may have been overlooked by some private equity firms in the past, their potential benefits cannot be ignored. From cost savings and stability to enhanced risk management and strategic opportunities, captives offer a compelling solution for firms seeking to optimize their insurance strategies and drive long-term value creation. As the market landscape continues to evolve, embracing innovative risk management solutions like captives could prove to be a game-changer for private equity firms looking to stay ahead of the curve.

For additional information, reach out to Horton’s M&A team to discuss if a captive is a good fit for you.