There Is No Single Definition of Risk.: Chapter One:-Introduction To Risk

Chapter one:- Introduction to Risk
There is no single definition of risk.

 Risk the possibility that a loss or injury will occur
 Risk can be defined as the chance of loss or an
unfavorable outcome associated with an action.
 Risk is a condition in which there is a possibility of an
adverse deviation from a desired outcome that is
expected for or for.
 The greater the variation, the greater the risk.
Contents
Chapter : Introduction to Human Resource
Management
1.HRM Definition, Functions & Objectives
2.Human Capital Management
3.HRM & Environment Scanning
4.Integrating HR-strategy With Business Strategy

Chapter II: Human Resource Planning, Job Analysis, Recruitment, Selection and socialization
1.Human Resource Planning
2.Job Analysis
3.Job Design
4.Employee Recruitment
5.Employee Selection
6.Socialization/Induction
Chapter-III: Employee Training , Development,
Performance Appraisal, Remuneration & Motivation
3.1 Training & Development

3.2 Performance Appraisal
3.3 Job Evaluation
3.4 Employee Remuneration
3.5 Employee Motivation & its Theories
Chapter-IV: Contemporary Issues in Human
Resource Mgt
5.1 Out sourcing HR activates
5.2 Work life of Balance diversity Management
5.3 Quality of Work Life (QWL)
5.4 Human Resource Issues in mergers & acquisitions
5.5 E-HR
5.6 HR scorecard
5.7 Whistle-blowing
5.8 Employer and Employee Branding
5.9 Globalization & HRM
Chapter I: Human Resource Management
1.1. HRM Definition ,Functions & Objectives
 What Is MGT ,HR, and HR
M? What is mgt?
 Mgt is the art of getting
things done through & with
people in formally organized
groups.
 Mgt refers to the process of
planning, organizing,
staffing, leading, &
Uncertainty vs. Risk

Uncertainty
 State of mind characterized by doubt or dilemma.
 Lack of knowledge about future.
 Psychological reaction about the future.
 Cannot be measured.
 It is subjective in nature.
Risk
It is something that is state of nature or environment
Risk is measurable by using different instruments.
Risk vs. Probability
Probability refers to the long-run chance of occurrence or
relative frequency of some event.
Risk, as differentiated from probability, is a concept in relative
variation (Actual from expected results).
Types of probability
Probability has both objective and subjective.
1. Objective probability:- refers to the relative frequency of
an event based on the assumptions of number of observations.
Cont.-----
Objective probabilities can be determined in 2 ways.

A. Deductive Reasoning: are called prior probabilities.
E.g. the probability of getting head from toss of coin is ½
2. Inductive Reasoning:- Are probability based on careful analysis of
past experience.
E.g. estimating the probability of death at age 21.
B. Subjective probability
Subjective probability is the individual’s personal estimating the chance
loss.
E.g. People who buy a lottery on their birthday may believe small chance
of winning.
Risk, Peril and Hazard
1. Peril
Peril:- refers cause of loss. It is a contingency cause a loss.
E.g. fire, windstorm, hail, theft etc.
If house burned by fire, the peril is the fire.
If car is damaged by collision , collision is the peril.
2. Hazard
A Hazard is a condition that may create or increase the
chance of a loss from a given peril.
E.g. A condition for the occurrence of collisions is icy street.
Storing gasoline in a kitchen is another example of a hazard.
It is possible for something to be both a peril and a hazard.
E.g. Sickness:- Peril - Causes Economic Losses
Hazard- Increases chance of Premature death
Cont.----
There are three basic types of hazards:
1. Physical hazard
It is physical property that increase chance of loss from perils.
E.g. Dry forests (for fire), earth faults (for earthquakes).
Such hazards may or may not be within human control.
2. Moral hazard
Moral hazard is increasing the probability of loss that result from
dishonest tendencies of insured person.
A dishonest person may intentionally cause a loss or may
exaggerate the amount of a loss to collect more than the amount
he /she is entitled.
E.G. Causing an accident , submitting fraudulent claim, inflating
the amount of claim and intentionally burning unsold merchandise
that is insured.
Cont----
3. Morale hazard
Morale hazard is carelessness or indifference to a loss because of the
existence of insurance.
People have developed careless attitude toward preventing losses.
E.g. Leaving car keys in unlocked car ,increasing chance of theft.
Leaving a door unlocked that allows a robber to enter.
It is also reflected in the attitude of persons who are not insured.
E.g. The tendency of physicians to provide more expensive care when
costs are covered by insurance. The feeling of courts to make larger
rewards when the loss is covered by insurance- this act so-called as
“deep pocket” syndrome.
Insurers try to eliminate the moral hazard and minimize the
morale hazard by carefully selecting their insured.
E.g. Having contracts require insured to pay the first certain amount
of a loss and others require insured to pay a percentage of each loss.
Classifications of Risk
The major categories of risk are:
1. Financial and Non-financial risks
2. Static and Dynamic risks
3. Fundamental and Particular risks
4. Objective and Subjective risks
5. Pure and Speculative risks
1. Financial and Non-financial risks
Financial Risk: is the out come can be measured in monetary terms.
E.g. Property damage, property theft, loss of profit etc.
2. Non-financial risks: is the out come cannot measured in monetary
terms.
E.g. Selection of career, Choice of marriage partner, Having
children etc.
In business we are concerned with financial risks
Cont----
2. Static and dynamic risks
Dynamic risks are those resulting from changes in the economy.
E.g. Changes in the price level, consumer tastes, income and
output and technology may cause financial loss to the economy.
 They are normally benefit society over the long run, since they
are the result of adjustments to misallocation of resources.
 They may affect a large number of individuals. They are
generally considered less predictable than static risks.
Static risks are occurred even if there is no changes in the
economy.
 Unlike dynamic risks, they are not a source of gain to society.
E.g. risks due to events such as fire, windstorm or death.
 Unlike dynamic risks, they are predictable and controlled by
insurance.
Cont----
3. Fundamental and particular risks
A. Fundamental risk is a risk that affects the entire economy or
the entire community and also called as groups risks.
E.g. high inflation, war, drought, earthquakes, floods etc.
They are generally uninsurable risks.
B. Particular Risk:- is a risk that affects only individuals

and not the entire community.
They are involve losses that arise out of individual events.
E.g. burning of a house, the damage of a car, theft of
individual property etc.
Cont.----
Objective risk is defined as the relative variation of actual
from expected loss.
They decline as the number of exposures increases.
They can be measured by standard deviation or coefficient of
variations.
Subjective Risks is a psychological uncertainty that comes
from the individual’s mental attitude or state of mind.
They are expressed in terms of the degree of belief.
The impact of subjective risks varies depending on the
individuals.
Cont.----
Objective risk is defined as the relative variation of actual
from expected loss.
They decline as the number of exposures increases.
They can be measured by standard deviation or coefficient of
variations.
Subjective Risks is a psychological uncertainty that comes
from the individual’s mental attitude or state of mind.
They are expressed in terms of the degree of belief.
The impact of subjective risks varies depending on the
individuals.
CHAPTER ONE
Classifications of Pure Risk
I. Personal Risks II. Property Risks
III. Liability Risks IV. Risks arising from failure of others
I. Personal Risks
 Consist of the possibility of loss of income or assets.
 Directly affect an individual
 Involves:
Reduction of income
Extra expenses and
Reductions of Financial Asset.
CHAPTER ONE
There are four major personal risks:
1. Risk of premature death
2. Risk of insufficient income during retirement
3. Risk of poor health and
4. Risk of unemployment
1. Risk of premature death

 Premature death is the death of family head with
unfulfilled financial obligations
 Premature death can cause serious financial problems to
CHAPTER ONE
 The death of a child age 10 is not “premature death”
in the economic sense.
Costs resulted from premature death.
There are four costs:
1. The human life value of the family head is lost forever.
2. Funeral expenses: Additional expenses
3. Reduction in their standard of living.
4. Non-economic costs: Loss of role model and
counseling and guidance for the children.
CHAPTER ONE
2. Risk of insufficient income during retirement
 The major risk is associated with old age.
 It is insufficient income during retirement.
 Workers exposed to financial insecurity during retirement.
3. Risk of Poor Health

It includes both medical expenses and the loss of earned income.
Persons will be financially insecure.
Example: Disabled persons Loss earned income
Medical expenses
Employee benefits
CHAPTER THREE
4. Risk of Unemployment
 It is major threat to financial security.
 Create financial insecurity in three ways.
i. Workers loss their earned income.
ii. Workers may be able to work only in part time.
iii. Past savings may be exhausted.

CHAPTER THREE
II. Property Risks
Risks associated with possession of property:
Example: Damage or theft of property.
There are two major types
A. Direct loss and
B. Indirect or consequential loss
Example: if a house is destroyed by fire
Loss of the value of house - Direct loss
Loss of place of owners living – Indirect Loss
Property involves two losses – 1. Loss of the property
2. Loss of the usage of the property
CHAPTER THREE
III. Liability Risks
 Liability risk is the unintentional or intentional injury of
other persons or damage to their property.
 Legal liability arising out of either intentional or
unintentional illegal act or attack of the rights of other.
IV. Risks arising from Failure of Others

The risk is occurred from the failure of someone's obligation
 Failure of debtors to make payments as expected.
 Failure of a contractor to complete a construction project
CHAPTER THREE
Burden of Risk on Society

Risk entails Two Burdens on society:
1. Large Emergency Fund
 It is the Increment of emergency fund for unexpected losses.
 The return is less if the fund invested in another activities.
2. Worry and Fear
 Risk produces a feeling of frustration and mental unrest.
 Example: A student who needs a grade C in a course to

graduate may enter the exam room with anxiety and fear
Chapter Two: Risk Management
What is Risk management?
 It is a process of identifying & evaluating pure loss faced
by an organization or individual.
 The risk manager is concerned only with the mgmt. of pure
risks, not speculative risks.
 Risk mgmt. is a process of thinking about all risks, problems
or disasters before they happen and setting procedures that
avoid the risk, minimize or cope with its impact.
Benefits to managing risk
 Protecting the name & image of the organization
 Preventing or reducing legal liability
 Increasing the stability of operations
 Protecting people from harm
 Protecting the environment
Objectives of Risk Management
Classified into two categories:
I. Pre-loss objectives
It is risk mgmt. objectives prior to the occurrence of a loss
1. Economy:-
Involves an analysis of safety, insurance premiums & the
costs for handling losses.
2. Reduction in anxiety:-
It is minimize the anxiety and fear associated with all loss
exposures.
3. Meeting external obligations:-
Meeting certain obligations imposed on it by outsiders.
E.g., gov’t regulations, Collateral for a loan.
II. Post-Loss Objectives
1.Survival:- Resuming partial operation for reasonable
period.
2. Continuity of Operations:- The ability to operate after a
sever loss.
3. Earnings Stability:- Maintaining earnings after a loss
occurs.
4. Continued Growth
A firm may grow by developing new products and markets or
by acquisitions and mergers.
5. Social Responsibility:- It is minimizing the impact of loss
on other persons & on society.
Risk Management Process
1. Identifying Potential losses
2. Evaluating Potential losses
3. Selecting the Appropriate technique
4. Implementing and administering the program
1. Identifying Potential loss

It is a process of identifying property, liability and personnel
losses.
It is a very difficult process b/c the risk manager has to look
into all operations of the company, so as to identify where
exactly risks emanate from.
There are obvious and hidden or overlooked risks.
To identify hidden risk, risk managers use d/t tools.
Risk Identification tools
A. Insurance Policy Checklists
B. Loss Exposure Checklists
C. Risk Analysis Questionnaires
D. Flow Charts
E. Interactions with other Departments
A. Insurance Policy Checklists
 Used to identify only insurable risks from insurance checklists
 They are not effective in identifying uninsurable pure risks
B. Loss Exposure Checklists
 They provide a listing of common risk exposures.
 It is one of the most common tools used for identifying risk
 The sources, insurer, agencies & risk mgmt. associations
C. Risk Analysis Questionnaires
 Well-developed & formulated questions are asked respondents.
 The answers indicate risk areas and specific risks.
D. Flow Charts
 A flow charts is constructed, starting with raw materials &
ending with finished products.
 In the process potential property, liability and personnel
losses identified.
E. Interactions with other Departments
 Interactions with other Departments provide another
source of information on exposures to risk.
 They create aware of exposures that might escape the risk
manager’s attention.
The Best Method
Firms use combination of methods that best fits the situation.
The choice is a function of
(1) The nature of the business
(2) The size of the business and
(3) The availability of experts in the organization
2. Evaluating/ measuring potential losses
The exposures must be measured in order to
(i) Determine their relative importance
(ii) Obtain information to decide up on risk mgmt. tools.
Dimensions to be measured : two dimensions
(1) The loss frequency:- the number of losses that will occur
(2) The severity of losses:- the size of losses that will occur
Priority Ranking Based on Severity

Risks can be classified into three head.
1. Critical risks
2. Important risks
3. Unimportant risks
1. Critical risks:- Losses that lead to bankruptcy.
2. Important risks:- Losses that not lead to bankruptcy, but
borrow money to continue operations
3. Unimportant risks:- Losses could be met by existing assets or
without imposing undue financial tension.
3. Selecting the appropriate technique for handling losses
There are two basic approaches.
I. Risk Controlling Tools :- These measures include:
A. Avoidance
B. Loss control
C. Separation/diversification/ and
D. Combination
II. Risk Financing Tools:- These tools include:
E. Retention/assumption/
F. Self-insurance
G. Non-insurance transfer and
H. Insurance
Risk Control techniques

Attempts to reduce the frequency & severity of accident.
A. Avoidance
 It means certain loss exposure is never acquired, or an existing
loss exposure is abandoned.
Characteristics of avoidance
1. Avoidance may be impossible
2. Avoidance to be impractical approach
3. Avoiding a risk may create another risk
B. Loss Control
 Reduces both the frequency and severity of losses.
 Lowering the chance that a loss will occur
 Reducing its severity if it does occur.
 It deals with exposure that the firm does not abandon.
Loss prevention and loss reduction methods

Loss prevention :- reduce or eliminate the chance of loss
Loss reduction:- reduce the potential severity of the loss
C. Separation/ Diversification/
Spreads a specified number of exposure units
It may be regarded as a form of loss reduction
e.g. Storing products in different stores reduce fire losses
D. Combination
Increasing the number of exposure units by pooling
Combinations of risk is done through internal growth.
It also occurs when two firms merge or one acquires another.
B. Risk Financing Techniques

 Designed for funding accidental losses after they occur.
1. Retention/ assumption/
 It is the most common method of risk handling by the
organization.
 The source of the funds is the organization itself.
 Retention is passive or unplanned when the risk manager is
not aware that the exposure exists and consequently does
not attempt to handle it.
 Some unplanned retention is common & perhaps unavoidable.
 If the risk identification has been poorly performed, too

much risk is passively retained and the manager has under
estimated the magnitude of the potential losses.
 Retention is active or planned when the risk manager

aware about risk and decides not to transfer losses.
 Self-insurance is a special method of active or planned
retention.
 Self-insurance is not insurance, because there is no
transfer of the risk to an outsider.
Three conditions exist for effectively using Retention.
1. When no other method of treatment is available
 Insurers are not willing to give coverage, b/c the
coverage may be too expensive.
 All losses can not be eliminated and retention is a residual
method.
2. When the worst possible loss is not serious
 For example, physical damage to automobiles in a large
firm’s. – not create bankruptcy
3. When losses are highly predictable
 Estimating the range of frequency & severity of losses
by risk managers
 Risk managers solve the losses by firm’s income.
2. Self-insurance
 Self-insurance is special form of planned retention
by which part or all of losses are retained by the
firm.
 A better name for self-insurance is self-funding, which
expresses are funded and paid by the firm.
 Self-insurance implies that adequate financial
arrangement made in advance to provide funds for
losses if they occur.
3. Noninsurance transfers
 Hold-harmless agreements are contract entered into
prior to a loss, in which one party agrees to assume a
second party’s responsibility if a loss occurs.
 For example, contractors may require subcontractors to

provide the contractor with liability protection if they
are sued because of the subcontractor’s activities.
4. Insurance
 Commercial insurance is also used in a risk mgmt.
program
 Insurance represents a contractual transfer of risk.
From individuals/firms to insurance company
 Insurance is appropriate for loss exposures that have a low
probability of loss but the severity of loss is high.
 If the risk manager uses insurance to treat certain loss
exposures, five key areas must be emphasized.
1. Selection of Insurance Coverage
 The risk manager selects the insurance coverage needed.
 The need for insurance can be categorized into three
A. Essential Insurance
 Includes those coverage required by law or by contract.
B. Desirable or Important Insurance
 Protection against financial difficulty but not bankruptcy.
C. Available or Optional Insurance
 Coverage of small losses which is inconvenience for firm.
 Protect against losses that could be met out of existing assets.
2. Selection of an Insurer
 Risk manager must select an insurer based on the
following important factors:
Financial strength of the insurer
Risk mgmt. services provided by the insurer
The cost and terms of protection
3. Negotiation of Terms
 The terms of insurance contract must be negotiated.
 The contractual provisions must be clear to both parties.
 Risk mgmt. services must be clearly stated in the contract.
4. Dissemination of infn concerning insurance coverage
 The firm’s employees & managers must be informed
about
 Insurance coverage
 The various records that must be kept
 The risk management services
 Responsible for reporting a loss must also be informed
5. Periodic Review of the Insurance Program
 The insurance program must be periodically reviewed.
 This involves an analysis of agent and broker
relationships, coverage needed, cost of insurance,
quality of loss-control, services provided, whether
claims are paid promptly and other factors.
WHICH METHOD SHOULD BE USED?

Frequency of Loss
Low High
Low Retention Loss Control & Retention
Severity of Loss
Insurance Avoidance
High
 If both low frequency & low severity of loss-Retention
 If high frequency & low severity- Loss Control & Retention
 If low frequency,& high-severity losses- Insurance
 If both high frequency and high severity- Avoidance
Step 4. Implementing and Administrating the Risk
Management Program
It involves three important components;
A. Risk management policy statement
B. Co-operation with other departments
C. Periodic review and evaluation
Step 5. Evaluating the Results

 The expected results of risk management should
evaluated with actual results.
CHAPTER Three
Risk management and probability Distribution
Meaning of probability
 Probability is measure the chance of occurrence of
something.
 The values of probability is between 0 and 1
Determining the probability of an event
1. A priori Probabilities – Deductive reasoning
These probabilities are determined before an experiment.

e.g. The probability of obtaining a head when coin is tossed is 1/2
The probability of drawing a king from a deck of card is 1/13 The
probability of drawing a king of hearts is 1/52. 48
CHAPTER Three
2. A posteriori or Empirical Probabilities - Inductive
 This probability is computed after a study of past experience.
 Suppose that we are told that the probability that a 21 year –
old male will die before reaching age 22 is 0.00191. What
does this mean?
 It mean that in the past out of 100,000 men, 191 died at age
21 before reaching age 22.
 Suppose that 1000 buildings in city are vulnerable to the risk
of loss due to fire.
 If past experience indicates that 20 of this building are likely to
49
CHAPTER Three
Law of Large Numbers
 The law of large numbers states that as the number of exposure units
increases, the degree of objective risk diminishes.
 Law of large numbers only allows accurate predictions of group
results.
 It does not predict what will happen to a particular exposure in the
group.
 The two most important application of the law of large numbers
 As the exposure units increases, the degree of risk decreases.
 Given a constant number of exposure units, as the probability of
50
loss increases, the degree of risk decreases.
CHAPTER Three
Some Rules of probability
Mutually exclusive and nonexclusive events
Mutually Exclusive
When two events (call them "A" and "B") are Mutually
Exclusive it is impossible for them to happen together:
Examples:
 Turning left and turning right are Mutually Exclusive (you
can't do both at the same time)
 Tossing a coin: Heads and Tails are Mutually Exclusive
 Cards: Kings and Aces are Mutually Exclusive
51
CHAPTER Three
Nonexclusive Events
Two events are called non exclusive if they have at least one
outcome common between them.
Example
 Kings and Hearts, because we can have a King of Hearts.
Additional rules of probability
1. Additional rule for mutually exclusive events
Addition Rule 1: When two events, A and B, are mutually
exclusive, the probability that A or B will occur is the sum
of the probability of each event.
P(A or B) = P(A) + P(B) 52
CHAPTER THREE
Example 1
A single 6-sided die is rolled. What is the probability
of rolling a 2 or a 5?
P(2) = 1/6 P(2 or 5) = P(2) + P(5)
P(5) = 1/6 = 1/6 + 1/6
= 2/6 = 1/3
Example 2:
 A glass jar contains 1 red, 3 green, 2 blue, and 4
yellow marbles.
 If a single marble is chosen at random from the jar,
what is the probability that it is yellow or green?
P(Y)+(G) = 4/10+3/10 = 7/10 or 0.7 53
CHAPTER THREE
Example 3.
 Suppose that Aster is shopping for new tire.
 The probability of 0.25, 0.30, 0.20, 0.15 or 0.10 that she
will buy Michelin, Goodyear, Hankook, Firestone, or
Addis tires.
 What is the probability that she will buy either Hankook
or Addis tires?
 P (Hankook or Addis tires) = P (Hankook) + P (Addis)
= 0.20 + 0.10
54
= 0.30
CHAPTER THREE
Additional rule of not mutually exclusive events
 If two events are not mutually exclusive, it is possible for both events to
occur together.
 For events that are not mutually exclusive, the probability of the joint
occurrence of two events is subtracted from the sum.
P (A or B) = P (A) + P (B) – P (A and B)
 If the probabilities are 0.37, 0.30, and 0.20 that a Gardner will buy a lawn
mower, edger, or lawn mower and edger on April 1, then the probability
that the Gardner will buy a mower or order on the day is:
P (mower or edger) = P(mower) + P (edger) – P (mower and edger)
= 0.37+ 0.30 – 0.20
55
CHAPTER Three
Independent events and dependent events probabilities
Independent events
Two events are independent when the occurrence or
nonoccurrence of one event has no effect on the probability of
occurrence of the other event.
Example
Tossing a fair coin twice in succession are considered to be
independent events, because the outcome of the first toss has
no effect on the probabilities occurring on the second toss.
56
CHAPTER THREE
Dependent events
Two events are dependent when the occurrence or nonoccurrence of one
event does effect on the probability of occurrence of the other event.
Example
The drawings of two cards without replacement from a deck of playing
cards are dependent events, because the probabilities associated with the
second draw are dependent on the outcome of the firm draw.
Example: Drawings King from a deck of card without replacement. The
probability on the first time is 4/52 = 1/13 but for the 2 nd , the probability
of getting king is 3/51.
57
CHAPTER THREE
Multiplication rule for independent events
P (A and B) = P (A∩B) = P (A) x P (B)
Example:1
Throwing 2 dice with red and green color, the probability is:
P (1 on red and 1 on green) = P (1 on red) x P (1 on green)
= 1/6x1/6 =1/36
58
CHAPTER THREE
Multiplication rule for dependent events
The probability of event B, given the occurrence of event A,
is called the dependent probability of B given A.
Example: Suppose that a set of 10 spare parts is known to
contain eight good parts (G) and two defective parts (D). The
probability that the two parts selected both good are:
P (G1 and G2) = P (G1) x P (G2/G1)
= 8/10x 7/9 = 56/90 or 28/45
59
CHAPTER THREE
Probability Distributions
A probability distribution shows, for each possible outcome,
there is probability of its occurrence.
Example:
The probability of losses totaling Birr 1000 is 0.273.

The loss amounts are mutually exclusive events and caver all
possible outcomes. 60
CHAPTER THREE
Given this distribution the probability of no Birr loss is 0.606.
The probability of some loss is equal to 1.0- 0.606, or 0.394.
or 0.273 + 0.100 + 0.015 + 0.003 + 0.002 + 0.001= 0.394.
The potential severity of the total Birr losses can be measured by stating the
probability that the total losses will exceed various values.
For example, the probability that the Birr losses will equal or exceeds Birr
10,000 is equal to 0.001 + 0.002 +0.003, or 0.006.
The useful measurement of loss frequency and loss severity is the expected
total Birr loss.
For the distribution above the expected loss value is:
(Birr 0) (0.606) + (1,000) (0.273) + (2,000) (0.100) + (4000) (0.15) +
(10,000) (0.003) + (20,000) (0.002) + (4000) (0.001) = Birr 643.
This measure indicates the average annual Birr loss the business 61will
CHAPTER THREE
For the distribution the Standard deviation calculated as follows.
The standard deviation is √3,199,551 or Birr 1,788.73. The standard

deviation is the square root of the variance, which measures dispersion.
The coefficient of variance is calculated by dividing the standard
deviation by the expected value.
62
CHAPTER THREE
For the distribution in table the risk relative to the expected value is
SD Birr 1,788.73 = 2.8.
Expected Value Birr 643
Probability Distribution and Measures of Risk
The techniques discussed below are based on the binomial
distribution and the Poisson distribution.
1.The Binomial Distribution

It is a two parameter distribution. It can be used when number
of accidents are independently exposed to the risk of accident
and each unit can experience at most one accident.
63
CHAPTER THREE
Two parameters determine the entire distribution: the
number of unit (n) and the probability that a randomly selected
unit will be damaged (p). The formula for binomial
distribution is:
n Pr (1-p) n-r
Probability of r accidents = r! (n-r)!
Where n! = n (n-1) (n-2) --- (2) (1); n! is called n factorial.
For example, a firm that ships 2 finished goods to customers
faces the probability of damage to the goods while in transit
and the probability of loss to a single item is 0.1.
64
CHAPTER THREE
The binomial distribution can be used to describe the
distribution of the number of lost. When n = 2 and p = 0.1.
Their probabilities can be calculated directly using the formula:
Probability of 0 accidents = 2 (0.1)0 (0.9)2 = 0.81
(0!) (2)!
(1!) (1)!
(2!) (0)!
For the binomial distribution, the expected number of losses is
given by the formula np, and the standard deviation is given by
square root of np (1-P). 65
CHAPTER THREE
2. The Poisson distribution
Like the binomial distribution, the Poisson distribution is a
discrete distribution. Unlike the binomial, the Poisson is a
single parameter distribution.
The formula for the Poisson distribution is:
Probability of r accidents = mr e -m
r!
Where m = expected number or accidents
e = a constant, equal to 2.71828
r! = r(r-1) (r-2) ---- (2) (1), with 0! = 1
The mean m of a Poisson distribution is also its variance.
Consequently, its standard deviation is equal to √m. 66
CHAPTER THREE
Example: Marshall Company owns 10 trucks with probability of
loss (P = 0.1) & Expected No of accidents = m = 0.1 X 10 = 1.0
What is the probability of three or more accidents? The answer is
8.03%, which is calculated in the following table.
Probability of 3 or more accidents

= 1- Probability of 0, 1, and 2 accidents
= 1- (0.3679 + 0.3679 + 0.1839) = 0.0803 67
CHAPTER FOUR
CHAPTER FOUR
INTRODUCTION TO INSURANCE
Definition of Insurance
Insurance defined from two points of view. These are:
Individual and society points.
From the point of the individual
Insurance is an economic device whereby the individual
substitutes a small cost (the premium) for a large uncertain
financial loss. 68
CHAPTER FOUR
Definition of insurance from the point of society
Insurance is an economic device for reducing and eliminating risk
through the process of combining a sufficient number of
homogeneous exposures into a group to make the losses
predictable for the group as a whole.
Nature of Insurance
Insurance has two fundamental characteristics:
 Transferring or shifting risk from one individual to a group
 Sharing losses, on some equitable basis ,by all members of the
group
69
CHAPTER FOUR
Basic characteristics of insurance
Insurance can be defined as a contract between two
parties. The party agreeing to pay for the losses is the
‘insurer’.
The party whose loss paid by insurer’ is the “insured”.
The money that the insured pay to the insurance
company is called the premium
The basic characteristics of insurance are:
1.Pooling of losses 3. Risk transfer
70
2.Payment of fortuitous losses 4. Indemnification
CHAPTER FOUR
1. Pooling of losses
Pooling of losses means the spreading of losses incurred by the
few over the entire group.
It implies two things:
 Sharing of losses by the entire group and
 Using the law of large numbers to predict future losses.
2. Payment of fortuitous losses
The insurer should cover losses that are unforeseen and
unexpected and occurs as a result of chance.
The loss should be an accidental & not deliberately caused
71
CHAPTER FOUR
3. Risk transfer
In this, a pure risk is transferred from the insured to the
insurer.
Example: The risk of premature death, poor health,
destruction or theft of property).
4. Indemnification
Indemnification: means the insured is restored his or her
approximate financial position prior to the occurrence of the
loss.
72
CHAPTER FOUR
Requisites (Fundamentals) of Insurable Risks
Insurers normally insure only pure risks.
However, all pure risks are not insurable.
The "ideal" elements of an insurable risk.
1. There must be Large Number of Exposure units
There must be a sufficiently large number of homogeneous
exposure units to make the losses reasonably predictable.
Insurance is based on the operation of the law of large
numbers.
73
CHAPTER FOUR
2. The loss must be accidental and unintentional
The loss must be the result of a contingency; that is, it must be
something that may or may not happen.
It must not be something that is certain to happen.
The loss should be beyond the control of the insured.
3. The loss must be determinable and measurable
The loss produced by the risk must be definite and
measurable.
This means the loss should be defined interms of cause, time,
74
CHAPTER FOUR
4. The loss should not be catastrophic.
Ideally, the loss should not be catastrophic (i.e. Affecting a
large number of exposure units at the same time). Because
most catastrophic losses, such as floods, earthquakes, and war
etc.
Insurers can deal with the problem of a catastrophic loss by
(1) Reinsurance, Re insurance is the shifting of part or all of
the insurance originally written by one insurer to another.
(2) Avoiding the concentration of risk by dispersing coverage
75
CHAPTER FOUR
5. The chance of loss must be calculable
The insurer should calculate the chance of loss with
reasonable degree of accuracy to determine premium.
6. The premium must be economically feasible
1st The premium for the insurance must be affordable;
otherwise few people would buy it, thereby spreading the
risk among fewer people.
2nd The premium must be considerably less than the policy
coverage; otherwise, people would simply self-insure.
76
CHAPTER FOUR
Insurance versus gambling
Insurance differs from gambling in two ways.

First, gambling creates a new speculative risk that did
not exist before, while insurance is a technique for
handling an already existing pure risk. Second,
gambling is socially unproductive, since the winner’s
gain comes at the expense of the loser. Insurance is
always socially productive, since both the insured and
77
CHAPTER FOUR
•Insurance versus Speculation
•Both insurance and speculation techniques are
similar in that risk is transferred by a contract,
and no new risk is created.
•Insurance differs from speculation:
•1. Insurance transaction usually involves the transfer
of risks that are insurable. However, Speculation is a
technique for handling risks that are typically
78
CHAPTER FOUR
•Insurance versus Adverse Selection
•Adverse selection is the tendency of persons with
a higher-than-average chance of loss to seek
insurance at standard (average) rate. Adverse selection
can be controlled by careful underwriting.
Underwriters determine if the policy should be
written by the insurer, and if so, what premium
should be charged and what restrictions should apply.
79
CHAPTER FOUR
•Benefits and Costs of insurance to society
•Benefits of insurance to society
A. Stability in Family
B. Indemnification for loss
C. Source of investment funds:
D. Reduce worry and fear
E. Loss control
F. Enhancement of credit
G. Promotion of saving
80
CHAPTER FOUR
•Costs of insurance to Society
A.Costs of doing business/operating Expenses
B.Fraudulent claims
C.Inflated claims
81
CHAPTER FIVE
Legal Principles of Insurance Contract
The most important fundamental principles Insurance
Contracts are:
1. Principles of Indemnity
2. Principles of Insurable interest
3. Principles of Subrogation
4. Principles of Utmost good faith
5. Principles of Contribution
6. Doctrine of Proximate cause 82
CHAPTER FIVE
1. Principle of Indemnity
 It states that the insurer is liable up to the amount of loss
and not more than the actual amount.
 Moral hazard created if the insured allowed to collect
more than the losses.
 It increases the premiums to unaffordable prices.
 This principle has two fundamental purposes.
1. To prevent the insured from profiting from a loss
2. To reduce moral hazard 83
CHAPTER FIVE
Actual Cash Value
In property insurance, the amount of the indemnity
is based on the actual cash value of the loss at the
time of the loss.
The courts used three methods of determining actual
cash value. These are:
1. Replacement cost less depreciation
2. Fair market value and
84
CHAPTER FIVE
A.The broad evidence rule
1. Replacement cost less depreciation

Replacement cost is the current price of a new item of
like kind and quality. Depreciation is the decrease in the
market value of an item.
If a 3-year-old car is totally demolished, the insurance
company is only going to pay what the car was worth at
the time of loss.
Actual Cash Value = Replacement Cost - Depreciation 85
CHAPTER FIVE
Depreciation = Replacement Cost x Age of
Insured Property
───────────
Useful Age of Property
Example 1, if a 5-year-old car with a useful life of 20 years
suffers a total loss due to fire and a replacement cost is
$120,000. What would be the indemnification for this loss?
Depreciation = 120,000 x
Depreciation = 30,000
Actual Cash Value = Replacement Cost - Depreciation
86
CHAPTER FIVE
 Example 2, A new car costs $20,000, and the depreciation of
3-year-old is $5,000.
 What would be the indemnification for this loss?
2. Fair market value
Fair market value is the price that a property would get in an
open market.
3. Broad evidence rule
The broad evidence rule uses all relevant factors in
determining the cash value for the loss, which can include,
87
appraisals, income generated by the property.
CHAPTER FIVE
1. Valued Insurance Policy
A valued policy pays the face amount of the policy

when a total loss occurs. B/c of the difficulty of
determining the actual value of the property at the
time of loss, the insured and insurer both agree on the
value of the property when the policy is first issued.
2. Replacement cost insurance
Paid for the replacement value of the loss, without any

88
deduction for depreciation.
CHAPTER FIVE
3. Life insurance
Life insurance is not a contract of indemnity and it is only a
valued policy. In life insurance, the amount paid when the
insured dies is the face value of the policy.
Exceptions to the principle of indemnity
The principle of indemnity is not easily applied or cannot be
applied because of the nature of the insurable interest, because
of state law, or because the insured wants greater protection
than afforded by indemnification.
89
CHAPTER FIVE
2. Principle of Insurable Interest
It states that the insured must lose financially if a loss occurs.
Insurable interest means the policy holder must have a
monetary interest in the property, which he has insured.
Purposes of an insurable interest
A.To prevent gambling
B.To reduce moral hazard
C.To measure the amount of the insured’s loss in
property insurance
90
CHAPTER FIVE
Time that an insurable interest must be exist
 In property insurance and Property, the insurable
interest must exist at the time of the loss.
 B/c property & liability insurance are contracts of
indemnity.
 If you sold a house covered by insurance, and it was
destroyed by fire, your insurance company does not
pay for the loss.
91
CHAPTER FIVE
3. Principle of Subrogation
Subrogation means substitution of the insurer in place of
the insured for the purpose of claiming indemnity from a
third person for a loss covered by insurance.
Insurer must pay before it claims subrogation.
The main purposes of subrogation are:
1.To prevent the insured from collecting twice for the same
loss.
2.To hold the negligent person responsible for the loss and
92
CHAPTER FIVE
Important corollary (results) of Subrogation
i. The general rule is that by exercising its subrogation rights,
the insurer is entitled only the amount paid under the policy.
ii. The insured cannot harm the insurer's subrogation rights.
iii. The insurer can ignore its subrogation rights in the contract
either before or after the loss.
iv. Subrogation does not apply to life insurance because life
insurance is not a contract of indemnity.
v. Insurer cannot subrogate against its own insured because it
93
CHAPTER FIVE
4. Principle of Utmost Good Faith
 Utmost Good Faith mean higher degree of honesty is
imposed on both parties to an insurance contract.
 Any information about the risk that is known to one party
should be known to the other.
 This principle of is supported by 4 important legal
doctrines. These are:
1. Representations 2. Concealments
3. Warranties and 4. Mistake
94
CHAPTER FIVE
1. Representations
Representations are the statements made by the insured on
the insurance application.
Many of these representations are responses to questions to
determine whether the applicant is insurable and how much
should be charged. The insurance contract is voidable at the
insurer's option if the misrepresentation is:
1. Material
2. Relied upon by the insurer and
95
3. False
CHAPTER FIVE
A material representation was relied upon insurer issuing
policy. If it is known, the insurer either not issued the policy,
or issued it with higher premiums. Any material
misrepresentations after a loss can also void an insurance
contract.
False means that the statement is not true or is misleading.
Reliance means that the insurer relies on the
misrepresentation in issuing the policy at a specified premium.
An insurance company can also void a contract if there was an
96
CHAPTER FIVE
2. Concealment
 Concealment is intentional failure of the applicant
for insurance to reveal a material fact to the
insurer.
 However, before an insurance company can deny
payment for concealment it must prove:
1. The insured knew that the fact was important in
regard to the insurance being applied for; &
97
CHAPTER FIVE
3. Warranty
 Warranty i s promise made by the insured in the contract.
 A warranty is a promise by the insurance applicant to do
certain things or to satisfy certain requirements, or, it is a
statement of fact that is attested by the insurance applicant.
 Any breach of warranty, even if immaterial, will void the
contract.
 If the insured breaches the warranty, the insurer can void the
contract and deny payment of a claim. 98
CHAPTER FIVE
Forms of Warranty
 Express warranties are those stated in the contract
 Implied warranties are not found in the contract but are
assumed by the parties to the contract.
 A promissory warranty is a condition, fact or circumstance
which the insured agrees to held during the life of the
contract.
 An affirmative warranty is the one that must exist only at
the time the contract is first put into effect.
99
CHAPTER FIVE
5. Principle of Contribution
Insurance companies developed various solutions to prevent
the insured from profiting from multiple insurance policies.
These provisions apply when more than one policy covers the
same loss.
The conditions to satisfy the requirement of contribution are:
 All the insurance must relate to the same subject matter
 They should cover the same interest of the same insured
 They should cover same peril, and
100
 All of them should be in force at the time of loss.
CHAPTER FIVE
Types of contribution
A. Pro-rata liability clause
B. Contribution of equal shares, and
C. Primary and excess insurance
A. Pro rata liability clause
 If a loss occurs that is covered by more than 1 insurance
policy then each policy pays a portion of the loss that is
proportional to the policy coverage.
 Based on their policy coverage proportion, they pay for
101
loss.
CHAPTER FIVE
Example―Pro Rata Liability
 You want to insure a building for $1,000,000, but, for
underwriting reasons, the maximum amount that you
can purchase from 3 insurance companies is $600,000;
$300,000, and $100,000, so you purchase the 3 policies
with the maximum limits.
 If you suffer a $200,000 loss, then the 1st company will
pay 60% of the loss, the 2nd, 30%, and the 3rd, 10%.
102
CHAPTER FIVE
B. Contribution by Equal Shares
 According to contribution by equal shares, each company
pays an equal amount until the loss is covered, or the policy
limit of any policy is reached.
 If 1 or more of the policy limits are reached, then the equal
share principle applies to the remaining insurers.
 As each policy limit is reached, the remaining insurers make
equal payments with the remaining amount of uncovered
loss until the loss is covered or all policies are maxed out.
103
CHAPTER FIVE
Example―Contribution by Equal Shares
 Use the 1st example. If you have a $150,000 loss,
then each company pays $50,000 for a total of
$150,000.
 If your loss was $400,000, then each company pays
$100,000, and the 2 with higher coverage pay an
additional $50,000 for a total of $400,000.
 If your loss was $800,000, then the low-limit
104
CHAPTER FIVE
C. Primary and Excess Insurance
The primary insurer pays first, & the excess insurer
pays only after the policy limits under the primary
policy are exhausted. Kombolcha Textile Factory has
Birr 500, 000 in liability insurance from X, with a Birr
1 million excess liability policy from insurer Y.
Kombolcha Textile Factory incurs a Birr 750, 000
liability risk, insurer X will pay up to its limit of Birr
105
CHAPTER FIVE
6. Doctrine of Proximate Cause
The legal doctrine of proximate cause is based on the

principle of cause and effect. And it does not concern
itself with the cause of causes. The law provides the
rule “cause proximate non remote spectator” which
means to be proximate; a cause must be immediate
cause, which is effectual in producing that result but
not the remote or distant one. And this cause has to be
106
CHAPTER Six: LIFE AND HEALTH INSURANCE
LIFE INSURANCE
Human life values are greater and more significant than all
other property values.
The true wealth of nation lies not in its natural resources
or its accumulated property.
But in the inherent capability of its population and the way
in which this population is employed.
107
Premature Death & Economic Justification of Life

Insurance
 Premature death is the death of a family head with
unfulfilled financial obligations.
 The primary purpose of life insurance is to protect
financially the insured’s family during premature death.
 Life insurance is an insurance coverage that provides a
monetary benefit to an insured person's family.
108
Underwriting life insurance
Underwriting is the process through which an insurance company
evaluates the risk of a potential client.
This process allows the company to set premiums and specify coverage
to the individual.
Life insurance underwriting consists of both medical underwriting as
well as non-medical underwriting.
As part of the underwriting process, health information may be used in
making two related decisions:
i. Whether to offer or deny coverage; and
ii. What premium rate to set for the policy. 109
Factors considered in life insurance underwriting
1. Sex: Empirical studies indicate that women live longer than men.
This may influence the underwriter lower premium payments for
women higher for men.
2. Current Physical Condition: This refers to the insured’s current
physical and health condition regarding pulse rate, heart condition,
blood pressure, lungs, nervous system, body build, weight, etc.
3. Personal Medical History: The insured’s past medical history is
examined to check for any previous illness.
4. Family Medical History: Medical history of insured family to
discover any hereditary diseased or deficiencies. 110
5. Occupation: Affect chance of suffering accidents of
premature death. Some are hazardous, and increase the risk of
death. For example a coal miner risk > manager or an
accountant.
6. Insurable Interest: This involves identifying any
relationship b/n the insured & named beneficiary.
7. Habits: Habits such as drug or alcohol consumption and
smoking could lead to accidents.
8. Marital status and number of children
Hobbies (such as race car driving,
111
Sources of Information for Underwriting
Pertinent information needed for underwriting is obtained from
the following sources:
 Proposal Form
 Medical Report
 Attending Physicians Statement
 Agent’s/ Salesman’s Report
 Questionnaires and Interview
 Underwriting Manuals
 Inspection Report 112
Why Is Underwriting Important?
The main purposes of life insurance underwriting are:
To prevent individuals who have a higher –than –average.
To decide whether to offer or deny the coverage and
To set the premium rate for the policy
To identify uninsurable Diseases such as:
Cancer Heart disease
Diabetes Blood pressure
Overweight and underweight etc.
113
Some unique characteristics of life insurance

A.The event insured against is an eventual certainty
B.There is no possibility of partial loss in life insurance.
C.Life insurance is not a contract of indemnity
D.The requirement of insurable interest is applied somewhat
differently than in property and liability insurance.
Types of life insurance: The major types are:
 Term life insurance
 Whole-life insurance
114
1. Term insurance policy

 It is a contract of life insurance protection for a limited
number of years.
 The face value of the policy being payable only if
death occurs within a specified period and nothing
being paid if the insured survives.
 Term insurance provides a limited number of
years/temporary protections.
115
Term life insurance provides the insured d/t options.
A. Decreasing term life insurance: It provides the
beneficiary with less and lesser continues each year.
If the death occurs in the first policy years, the
beneficiary receives the face amount. If the death occurs in a
succeeding years, the proceeds will be less.
Company illustration of decreasing value term insurance for Mr. X
Age/Sex: 35, male
Year Age Annual premium Death benefit
1 35 100 $ 90,000 $
2 36 100 $ 80,000 $
3 37 100 $ 70,000 $
4 38 100 $ 60,000 $ 116
5 39 100 $ 50,000 $
B. A level term policy: pays the same amount of benefits if
death occurs while the policy is in force.
And also the premium remains the same each year.
Company illustration of level term insurance for Mr, Y.
Age/Sex: 35, male ,smoker
Year Age Annual premium Death benefit
1 35 114 $ 100,000 $
2 36 114 $ 100,000 $
3 37 114 $ 100,000 $
4 38 114 $ 100,000 $
5 39 114 $ 100,000 $
117
C. Renewable term policies: allow the insured to

continue the coverage age regardless of the status of
the insured’s health or other relevant factors
occupation.
The most common is yearly renewable term insurance.
Yearly renewable term insurance is issued for a

one-year. Premiums increase with the increase in age.
118
2. Endowment insurance
Insurance coverage is paid if the insured dies within a
specified period; if the insured survives to the end of the
endowment period, the face amount is paid to the policy
owner at that time.
Whole life insurance
The policy provides lifetime protection.
It is a type of permanent insurance coverage that provides
payment upon the death of the insured.
119
It promises to pay the beneficiary whenever death occurs.
There are various forms of whole life insurance.
A. Ordinary life insurance (also called straight life,
continuous premium whole life, level-premium whole life) -
provides lifetime protection with premiums that are payable
for the whole life.
Premiums are to be paid at regular interval until the death
of the insured or until the achievement of a specified age limit,
100 years.
It gives permanent protection at the lower cost.
120
B. Limited Payment Whole Life Insurance
 Under this insurance scheme, premiums are paid for a
definite period of time, which is determined in advance.
 That is for 10, 15, 20, and 25, 30 years or up to age 65.
After the expiration of the specified time, the policy is said
to be paid-up.
 The policy remains in full force for the whole of life
but premiums are payable for a limited years only.
 Since premiums are to be paid for a limited period, they are
121
usually higher than those under the straight life insurance.
Rate Making for Life Insurance/ Premium determination
Ratemaking refers to the pricing of insurance. An insurance
rate is the price per unit of insurance. The process of
predicting future losses and future expenses and allocating
these to costs among the various classes of insured is called
ratemaking. Life insurance rates are influenced by three
major determinants:
A.Expected mortality rates in the insured population
B.Investment income earned by insurer from premium income
C.Expenses incurred in operating & providing services by insurer.
122
Mortality Table
Mortality table is a table that shows the number of
deaths per 1000 and expectation of life at various
ages.
The probability of death expressed in a mortality table
is based on insured lives and not the whole population.

123
Example, Exhibit: Commissioners 1980 Standard Ordinary
Mortality Table, Male Lives
Age at Number Number Age at Number Number
Beginni Living Dying Beginni Living Dying during
ng of Beginning During ng at Beginning Designated
of Year of Designated of Year of year
Designated Year Designated
year year
0 10,000,000 41,800 25 9,663,007 17,104
1 9,958,200 10,655 26 9,645,903 16,687
2 9,947,545 9,848 27 9,629,216 16,466 124

1. Net Single Premium
When the total net premiums paid as a single sum at the
beginning of the contract, it is called the Net Single Premium.
The net single premium (NSP) can be defined as the present
value of the future death benefit.
The NSP is based on three basic assumptions:
1.Premiums are paid at the beginning of the policy year,
2.Death claims are paid at the end of the policy
year, and
125
3.The death rate is uniform throughout the year.
Net Annual Level Premium
 The policyholder pays the same amount of premium each
year. Most life insurance policies are not purchased
with a single premium because of the large amount of
cash required.
 Consumers generally find it more convenient to pay for
their insurance in installment payments.
 If premiums are paid annually, the net single premium must
be converted into a net annual level premium.
126
Gross Premium (GP)

 When portion of all the insurer’s costs of running
the business are added to the Net Premium is called
the GP
 The addition of the insurer’s costs of doing business
to the Net Premium is called Loading.
Three types of loading allowance:
127
(1) Production Expenses: Production expenses are

the expenses incurred before the agent delivers the
policy, such as policy printing costs, underwriting
expenses, and the cost of the medical
examination.
(2) Distribution Expenses: Distribution expenses are
largely selling expenses, such as the first year
commission, advertising, and agency allowances.
128
HEALTH INSURANCE
The following are selected to be dealt in this section
1. Medical expense insurance
2. Disability income insurance
1. Medical expense insurance
 Provides cost of medical care for sickness and injury.
 Used to meet the expanses of physical hospital
nursing, surgical expanse, and related services.
129
Medical expanses insurance is paid

under the following specific coverage’s
Hospital insurance
Surgical insurance
Physicals expanse insurance
Major medical insurance 130
Hospital insurance
Pays for medical expenses for insured in a hospital.
Provides two basic benefits.
A daily benefit is paid for room and board charges.
There are three basic approaches.
 Indemnity approach: The plan pays the actual
costs of the daily services up to some maximum
limit.
131
2. Surgical Expense Insurance

The insurer covers for surgical expanses, such as physicians’
fees associated with surgeries.
3. Physician’s expanse insurance

 Insurance pays a benefit for non-surgical care provided
by a physician in the hospital, the patient’s home, or in
the doctor’s office.
 Some plans also pay for diagnostic X-ray and laboratory
expenses performed outside the hospital. 132
4. Major medical insurance

 This insurance is also designed to pay a large
proportion of the covered expanses of a
catastrophic illness or injury.
133
CHAPTER Seven: Non life insurance
TYPES OF NON-LIFE INSURANCE POLICES

1. MOTOR INSURANCE
Motor insurance is a major class of insurance
providing the highest insurance premiums for EIC
during the past several years.
The policy provides two types of insurance cover:
Comprehensive Cover the insured for losses.
Third Party Liability which gives cover against third
party liability death or bodily injury. 134
CHAPTER Seven: Non life inurance
Additional Risks
Motor insurance policies can include Personal
Accident Benefits, (PAB) and Bandits, Shiftas &
Guerillas, (BSG) risks.
BSG Cover
A Comprehensive Motor policy; subject to additional
premium, arising out of direct or indirect actions of
bandits, Shiftas and guerillas, but excluding any third
party liability.
135
CHAPTER Seven: Non life Insurance
CLASSIFICATION OF MOTOR POLICIES

The main classifications are Private Vehicles Policy
and Commercial Vehicles Policy.
PRIVATE VEHICLE POLICY
Motor vehicles that are exclusively used for private
purposes: social, domestic, pleasure or professional.
Motor vehicles used for hiring, racing, speed, testing
and the like are excluded from this policy.
136
The policy does not provide payment to the insured

in respect of:
 Losses arising outside the geographical areas.
 Wear and tear or depreciation of any vehicle
 Mechanical or electrical breakdown of the vehicle
 Damages caused by catastrophes like flood,
windstorm, earthquake, war, invasion, etc.
 Any loss/damage caused by such fundamental risks
as: flood, windstorm, earthquake, war, invasion, etc.
137
2. COMMERCIAL VEHICLE POLICY

 A wide range of vehicles used for transporting
goods and passengers are covered by this policy.
 Premium rates differ depending on the type and use
of the vehicles insured.
 The motor vehicles under this policy are classified
as follows:
138
1. Goods Carrying Vehicles

Vehicles primarily manufactured for carrying goods.
Two types
A. Own Goods: vehicles used for carrying solely the
insured’s goods, and
B. General Cartage: vehicles used for carrying goods
for hire-light vehicles and heavy vehicles.
2. Tankers: Vehicles that transport liquid substances.
139
3. Buses: These include passenger carrying vehicles

including omnibuses and micro buses which
accommodate more than 12 people including the
driver.
4. Taxis, Car-Hero Cycles: Maximum passenger
seats for taxis and car-hire is 12, including the driver’s
seat. Motorcycles are either two or three wheeled.
140
1.Special Type Vehicles: These include mobile

cranes, earth moving equipment, Ambulances,
agricultural vehicles, dumpers, fire brigade vehicles,
etc… In this policy, liability for death or bodily
injuries is excluded to:
 any person in the employment of the insured
 A member of the insured’s household.
 Any person being carried in the insured vehicle at
141
2. BURGLARY & HOUSEBREAKING INSURANCE

This is a policy to protect property from loss by
theft.
This policy provides cover for two categories of
risk: Private Residence and Business Premises.
The policy may be issued for a maximum one year.
The property to be insured may include stocks and
materials. 142
3. FIRE & LIGHTNING POLICY.

This policy provides indemnification to the insured for
loss or damages to property by fire or lightning.
The policy is not normally issued on a long-term
basis.
The policy does not cover:
 Losses by theft during or after occurrence of a fire.
 Loss/damage to property arising out of climatic
conditions, chemical reaction, etc…
 Burning of property by order of any public authority.
143
4. ALL RISKS POLICY

 All items to be insured are listed in the Schedule
including the specification and the sum insured for
each item.
 The property manly insured include gold & silver,
funs, pictures, and other jeweler items.
 The maximum period for the issuance of this policy
is one year.
144
 5. PUBLIC LIABILITY POLICY

 This policy make payment legal liability of insured.
 The Policy is issued for a maximum one year.
 If the insured dies while the policy is in force, the
insurer will indemnify the personal representative of
the insured in respect of the liability incurred by the
insured.
145
6. MONEY POLICY
 This policy gives cover for any loss of money.
 There are two types protects from money risk: Transit
Risks and Premise Risks.
 Transit Risks refer to loss of money while it is in transit
either to the premises or from premises or carrying the
money to other places for making disbursement.
 In this case, insurance cover is applicable for a period of
time until the transit activity is accomplished. 146
 Premise risks refer to the possibility of loss of

money kept in locked safes in the premise by
burglars, housebreakers or thieves.
 The insurer, however, will not be liable for losses
caused by :
1.War and war like operations.
2.Dishonesty of any messenger or employee of the
insured
147
7. FIDELITY GUARANTEE POLICY

 This policy protects employers from all direct losses
arising from any act or acts of fraud or dishonesty
committed by any of the employees.
 The insured is, then, indemnified up to the amount
guaranteed by the insurer, subject to the terms and
conditions of the policy.
 The insurance cover shall not exceed one year.
148
8. PLATE GLASS POLCIY

 This policy protects the insured against the destruction or
breakage of the glass
 The policy does not provide compensation for:
 Damages directly or indirectly traceable to fire explosion,
earthquake, volcanic eruption, hostilities, sticks etc.
 Cracked or imperfect glass
 Damage to window frames and other fittings.
 Consequential losses and any legal liability, etc…
149
9. MARINE INSURANCE
 Marine insurance provide protection for the insured
for loss of or damages to the property arising out of
sea perils.
 The various classes of insurance policy that are
issued under marine insurance are: Hull, Cargo and
Freight.
150
TYPES OF MARINE POLICIES

1.Time policy: The contract begins at a specified date
and terminates at a specified date.
2.Voyage Policy: Give protection to the insured from
port of departure to port of destination.
The policy terminates when the ship reaches the
desired port safely.
This policy is in most cases issued to cover cargos.
151
3. Mixed Policy (Time and Voyage Policy) : It combines

time and Voyage Policies
4. Valued Policy: It eliminates the disagreement exist
between the Insured and the Insurer as to the value of the
property when a loss occurs. The insurable value is declared
at the beginning of the policy
5. Unvalued Policy (Open Policy): The value is left to be

proved later upon the occurrence of a loss or damage.
The Insurable value is the basis for making compensation152
CHAPTER 8: Reinsurance
Meaning of Re-insurance
Reinsurance is the shifting of part or all of the
insurance originally written by one insurer to another.
The insurance company that initially writes the policy
for the insured is called the primary insurer (ceding
company), and the insurance company that accepts
part or all of the insurance from the ceding company is
the reinsurer. 153
CHAPTER eight: Reinsurance
 The amount of the insurance that the primary/ceding
insurer retains is called the retention limit (net
retention), and the amount insurance that is ceded
to the reinsurer is known as the cession.
 The reinsurer may transfer some of the insurance to
another reinsurer.
 The process by which a reinsurer passes risks to
another reinsurer is known as retrocession.
154
Reasons for Reinsurance
The main purposes of reinsurance are the following:
1. To increases the capacity of the insurer;
2. To stabilize profits
3. To reduce the unearned premium reserve
4. To protect against a catastrophic loss
155
Types of Re-insurance Agreement
There are two: Facultative and Treaty Reinsurance.
1. Facultative Reinsurance
Facultative Reinsurance is an optional, case-by-case
method that is used when the ceding company
receives an application for insurance that exceeds its
retention limit. If a willing reinsurer can be found, the
primary company and reinsurer can enter into a valid
156
2. Treaty (Automatic) Reinsurance
Treaty (Automatic Reinsurance) involves a standing
agreement with a particular reinsurer. Treaty
reinsurance means the primary insurer has agreed to
cede insurance to the reinsurer and the reinsurer has
agreed to accept the business. The amount of
insurance sold by the primary insurer that is
transferred and the services provided by both parties
157
•Types of automatic treaties
(1) Quota share treaty (2) Surplus share treaty
(3) Excess of loss treaty (4) Reinsurance pool
1. Quota Share Treaty: Under a quota-share treaty,
the ceding company and reinsurer agree to share
premiums and losses based on some proportion. The
ceding insurer’s retention limit is stated as a
percentage rather than as a Birr amount. Premiums
158
Pro-rata reinsurance (quote-share treaty) is the
proportionate sharing of premiums, losses, and
expenses between the primary insurer and the
reinsurer.
For example, the primary insurer may decide to retain
70% of new business and transfer 30% to the
reinsurer, and dividing income, losses, and expenses
by the same proportion.
159
2. Surplus Share Treaty: Under a surplus-share
treaty, the reinsurer agrees to accept insurance in
excess of the primary insurer’s retention limit, up to
some maximum amount.
For example, suppose that ABC property insurance has a
retention limit of Birr 200,000 (called a line) for a single
policy and those four lines or 800,000 are ceded to XYZ
reinsurer.
Assume that Birr 500,000 property insurance is issued. 160
 Then ABC property insurance takes the first Birr
200,000 of insurance or two-fifths (2/5) and XYZ
reinsurer takes the remaining 300,000 or three-fifths
(3/5).
 These fractions then determine the amount of loss paid
by each party.
 If a Birr 50,000 loss occurs, ABC property insurance
pays 20,000 (two-fifths) and XYZ reinsurer pays the
remaining Birr 30,000 (three-fifths). 161
Amount of Policy ABC Property Insurance (line) XYZ Reinsurer
 500,000 Br. 200,000 Br. 300,000
Amount of loss
 Birr 50,000 20,000(50,000 x 2/5) 30,000(50,000 x 3/5)
3. Excess of Loss Treaty: An excess-of-loss treaty is designed

largely for a catastrophe loss.
 Losses in excess of the primary company’s retention limit
are paid by the reinsurer up to some maximum limit.
 An excess-of-loss treaty can be used to provide protection
against a catastrophic loss. 162
3. Excess of Loss Treaty:
 An excess-of-loss treaty is designed largely for a
catastrophic loss.
 Losses in excess of the primary company’s retention
limit are paid by the reinsurer up to some maximum
limit.
 An excess-of-loss treaty can be used to provide
protection against a catastrophic loss.
163
Example, assume that the reinsurer agrees to pay all losses in
excess of Birr 50,000 up to a further Birr 200,000; the way in
which various losses are divided is as follow:
loss is Birr Primary Insurer Pays Excess Reinsurers Pay
40,000 40,000 Nil
50,000 50,000 Nil
100,000 50,000 50,000
250,000 50,000 200,000
164
4. Reinsurance Pool:
 A Reinsurance Pool is an organization of insurers
that underwrites insurance on a joint basis.
 Pools are formed because a single insurer alone may
not have the financial capacity to write large
amounts of insurance, but the insurers as a group
can combine their financial resources to obtain the
necessary capacity.
165
 Each pool member agrees to pay a certain
percentage of every loss.
 Another arrangement is similar to the excess-of-loss
reinsurance treaty.
 Pool members are responsible for their own losses
below a certain amount.
 Losses exceeding that amount are shared by all pool
members.
166
Chapter Nine: Insurance in Cooperative
 Coop Insurance: Protecting Members and their Assets
What is Cooperative Insurance?
CHAPTER
 Cooperative insurance, eight:
also knownReinsurance
as mutual insurance, is a
type of insurance where policyholders come together to
form a cooperative entity.
 This entity is owned and operated by its members, who pool
their resources to provide insurance coverage for
themselves and their fellow members.
167
The Benefits of Cooperative Insurance
1. Lower Premiums: One of the primary benefits of cooperative
insurance is that it often offers lower premiums compared to
traditional insurance policies. This is because cooperative insurance
operates on a not-for-profit basis
2. Tailored Coverage: Cooperative insurance understands the unique
needs and challenges of its members, allowing for more
personalized coverage options. Unlike standard insurance policies
that offer a one-size-fits-all approach, cooperative insurance can be
tailored to suit the specific requirements of its members.
168
3. Member Control and Participation: Cooperative

insurance is owned and governed by its members, ensuring
that policyholdersCHAPTER
have a sayeight:
in theReinsurance
decision-making process.
4. Enhanced Risk Management: Cooperative insurance
encourages proactive risk management among its members.
By promoting risk prevention and mitigation strategies,
cooperative insurance aims to reduce the likelihood and
severity of claims.
169
5. Mutual Support and Solidarity: Cooperative insurance

fosters a sense of community and mutual support among its
members. CHAPTER eight: Reinsurance
In times of crisis, such as natural disasters or unforeseen

events, cooperative insurance can provide financial assistance
and support to affected members.
170
Tips for Choosing a Cooperative Insurance Provider
 When considering cooperative insurance, it's essential to

research and evaluate different providers to find the one that
best suits yourCHAPTER
needs. eight: Reinsurance
Assess the financial stability of the cooperative

Evaluate the coverage options
Analyze member satisfaction
Understand the cooperative's governance structure
171
Types of Coverage Offered by Cooperative Insurance
 Auto Insurance: protects members in the event of

accidents, theft, or damage and liability insurance to
members vehicles
 Homeowners Insurance: Give home protection
 Business Insurance: protection for property,
liability, and business interruption
 Life Insurance: protect members and their families
in the event of death.
172
THANK YOU!!
173

There Is No Single Definition of Risk.: Chapter One:-Introduction To Risk

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There Is No Single Definition of Risk.: Chapter One:-Introduction To Risk

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Chapter one:- Introduction to Risk

There is no single definition of risk.

1.HRM Definition, Functions & Objectives

2.Human Capital Management

3.HRM & Environment Scanning

4.Integrating HR-strategy With Business Strategy

1.Human Resource Planning

3.1 Training & Development

Uncertainty vs. Risk

Objective probabilities can be determined in 2 ways.

B. Particular Risk:- is a risk that affects only individuals

1. Risk of premature death

3. Risk of Poor Health

 It is major threat to financial security.

 Create financial insecurity in three ways.

i. Workers loss their earned income.

ii. Workers may be able to work only in part time.

iii. Past savings may be exhausted.

IV. Risks arising from Failure of Others

Burden of Risk on Society

 Example: A student who needs a grade C in a course to

1. Identifying Potential loss

Priority Ranking Based on Severity

Risk Control techniques

Loss prevention and loss reduction methods

B. Risk Financing Techniques

 If the risk identification has been poorly performed, too

 Retention is active or planned when the risk manager

 For example, contractors may require subcontractors to

WHICH METHOD SHOULD BE USED?

Step 5. Evaluating the Results

These probabilities are determined before an experiment.

The probability of losses totaling Birr 1000 is 0.273.

The standard deviation is √3,199,551 or Birr 1,788.73. The standard

1.The Binomial Distribution

Probability of 3 or more accidents

Insurance differs from gambling in two ways.

1. Replacement cost less depreciation

A valued policy pays the face amount of the policy

Paid for the replacement value of the loss, without any

The legal doctrine of proximate cause is based on the

Premature Death & Economic Justification of Life

Some unique characteristics of life insurance

1. Term insurance policy

C. Renewable term policies: allow the insured to

Yearly renewable term insurance is issued for a

Mortality table is a table that shows the number of

deaths per 1000 and expectation of life at various

The probability of death expressed in a mortality table

is based on insured lives and not the whole population.

0 10,000,000 41,800 25 9,663,007 17,104

1 9,958,200 10,655 26 9,645,903 16,687

2 9,947,545 9,848 27 9,629,216 16,466 124

Gross Premium (GP)

(1) Production Expenses: Production expenses are

Medical expanses insurance is paid

2. Surgical Expense Insurance

3. Physician’s expanse insurance

4. Major medical insurance

TYPES OF NON-LIFE INSURANCE POLICES

CLASSIFICATION OF MOTOR POLICIES

The policy does not provide payment to the insured

2. COMMERCIAL VEHICLE POLICY