The CRO of Not So Nyce Place to Work (NSNPTW) is trying to find the optimal method of financing its workers' compensation risk. NSNPTW is considering three risk financing techniques in order to address this loss exposure: a) retention (something similar to self-insurance); b) traditional third-party insurance; or c) formation of a captive insurance company. Assume all three methods will meet state requirements. Also assume any financial information (balance sheet numbers, loss expectations, etc...) will remain stable for the next decade and that NPTW's internal rate of return is 10%.

You are asked by NSNPTW to decide which method of risk management is most appropriate for dealing with NSNPTW's workers' compensation losses over the next 10 years. Use the balance sheet information, as well as the addition information below, to answer each of the following questions related to NSNPTW and decide which method of risk management is best for NSNPTW.

NSNPTW has decided to use the working capital method to determine how much it is willing to retain. It has determined that NSNPTW is willing to retain 5-10% of working capital for its workers' compensation risk. Management is adamant that it is not willing to retain any more than that. NSNPTW has reviewed its workers' compensation claims history and determined that its workers' compensation losses are roughly normally distributed with a mean of $100,000 and a standard deviation of $75,000.

NSNPTW has investigated the captive option.Management has determined that start-up costs for the captive insurance company would be $225,000 and annual premiums will be a level $110,000 over the next 10 years to ensure that the captive has the resources to pay for all workers' compensation claims.

NSNPTW also has received a quote from a highly rated third party insurer who is willing to guarantee that NSNPTW's insurance premiums will be $150,000 per year for the next 10 years for its workers' compensation claims.

Question 1. What is the working capital for NSNPTW as of December 31^st, 2024?

Question 2. What is the maximum amount, in dollars, that NSNPTW would be willing to retain?

Question 3. Given NSNPTW's workers' compensation loss distribution, should NSNPTW retain workers' compensation losses? Why?

Question 4. Ignoring the retention option discussed in questions 1-3, should the company start a captive or purchase workers compensation insurance from a third party insurance company? Why? Remember, this decision has a 10 year time horizon.

Question 5. Given all of your answers in questions 1 through 4, should NSNPTW form a captive workers' compensation insurer, purchases workers' compensation insurance from a third party insurer, or retain workers' compensation losses? Why?

NOT SO NYCE PLACE TO WORK, INC

BALANCE SHEET

as of December 31^st, 2024

ASSETS
Current Assets:
	Cash		$ 1,000,000.00
	Accounts Receivable		$ 300,000.00
	Notes Receivable		$ 200,000.00
	Inventory		$ 1,500,000.00
	Other Current Assets		$ 3,000,000.00
	Total Current Assets				$ 6,000,000.00
Long Term Assets:
	Buildings		$ 13,000,000.00
	Less Depreciation		$ (1,900,000.00)
	Property and Equipment	$ 1,000,000.00
	Less Depreciation		$ (600,000.00)
	Total Long Term Assets			$ 11,500,000.00
TOTAL ASSETS				$ 17,500,000.00
LIABILITIES:
Current Liabilities:
	Accounts Payable		$ 1,500,000.00
	Bank Loans		$ 800,000.00
	Notes Payable		$ 200,000.00
	Other Current Liabilities	$ 1,500,000.00
	Total Current Liabilities			$ 4,000,000.00
Long Term Liabilities
	Mortgage		$ 8,500,000.00
	Other		$ 1,000,000.00
	Total Long Term Liabilities			$ 9,500,000.00
TOTAL LIABILITIES				$ 13,500,000.00
Stockholder's Equity:
	Common Stock		$ 3,500,000.00
	Retained Earnings		$ 500,000.00
TOTAL STOCKHOLDER'S EQUITY				$ 4,000,000.00
TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY		$ 17,500,000.00