In 2000, The Allstate Corporation s

In 2000, The Allstate Corporation started on an exciting and uncharted new course: to become an early insurance industry adopter of enterprize risk management (ERM). It has been a complex journey that has helped provide a deeper insight into the company's underlying risk profile, enhanced the way Allstate manages risk in several significant ways and helped generate actions to better exploit risk opportunities.

The company's initial effort began some years earlier at the direction of then–CFO, Tom Wilson, who established new capital allocation and valuation models for use in the finance function. Later, as Wilson moved into an operating role, John Carl joined Allstate as CFO and asked his staff what the company's risk–adjusted returns were. A series of conversations resulted in a decision to explore developing a more quantitatively rigorous approach to measuring risk, similar to what was practiced in the oil and gas industry.

In response, a core group of Allstate's corporate finance staff developed a stochastic economic capital (EC) model to evaluate the amount of capital the company needed to cover line–of–business and enterprise losses at specific risk tolerance levels. However, the benefits of this effort were not well understood by many people outside of the finance function, so the results of the EC model weren't widely used to inform decisions made at the operating level throughout the organization.

In response, the finance team turned its attention to developing an ERM framework that would help combine the benefits of EC modeling with operational decision making. This combination of stochastic modeling and operational governance was a novel approach in the industry at the time.

Over time, Allstate has worked to align its analytics with corporate governance and decision–making activities. Today, there is a rigorous company–wide process to quantify, mitigate and exploit risks, and then use this information to make strategic decisions regarding overall capital needs and capital allocation among its businesses. Dan Hale, Allstate's current CFO, has been an enthusiastic supporter of ERM, recognizing its huge potential by establishing an Enterprise Risk Council (ERC), Allstate's first corporate risk officer (CRO) and a separate ERM division.

There are several advantages to Allstate's ERM approach. First, it allows the company to set a quantitatively based risk/reward threshold across its businesses so that management can better understand the totality of its risks, their interrelationships and their financial implications for the company. Second, it allows management to evaluate how lines of business compare to each other vis–à–vis capital consumption and whether the returns are commensurate with the risks inherent in those businesses. And finally, it provides Allstate with solid new measurements to inform business decision making. Although company executives say there is a lot of work to do, Allstate has already distinguished itself as a successful early adopter of ERM. And while the road to success wasn't always smooth or direct, Allstate has already reaped some significant rewards as a result of its ERM activities.

A successful ERM function will help managers make risk– and capital–related decisions, such as reinsurance purchasing, asset/liability management, risk limit setting and monitoring, and capital allocation and pricing. ERM is not all or nothing–companies can benefit from a practical, "get the basics right" process that starts small, focuses on key issues first and consistently builds value.