Workers Compensation Experience Rating and Combining Entities – Problems Discovered in Real World Acquisition and Mergers of Entities

When separate entities merge or are acquired, one of the least thought about issues during the heat of the acquisition is the effect a combination of these entities may have on the acquiring company’s workers compensation experience rating modification factor or EMR. I’d venture to say that the result of combining entities on the EMR may even come as a surprise to the new company after the deal is completed. And for those companies where maintaining contracts with current clients and acquiring new clients for their business may be dependent upon them presenting a good EMR (usually one that’s at or below 1.0) that is not the time to discover the potential problem created! In this blog we’ll uncover some of the problems associated with acquiring an entity with an out of control EMR and how that may affect the acquiring entity’s business from the stand point of premium cost and their ability to maintain and secure new clients.

Let’s get this out of the way. The Experience Modification Rating Factor, often times referred to as the EMR, is not a factor that, by itself, was ever meant to be used as some kind of safety indicator. Not doubt there’s many folks out there that would strongly disagree with me on this. That’s ok. It’s probably the only single independent factor available that may even come close to accomplishing this goal. But keep in mind, the EMR is a premium rating factor.

The two primary reasons for using Experience Rating, when compared to using only Manual Rating, are:

  • It tailors the cost prediction and final net premium cost to the individual insured.
  • It provides added incentives for loss reduction (I’m still not convinced on this one..I guess, maybe.)

In very simple terms, the purpose of an EMR is to tailor, or fine tune, the rating of an individual employer’s workers compensation policy to reflect that specific employers actual claim experience as incurred over a period of time known as the experience period (usually a look back period of 4 years with the most recent year thrown out.) Outside sources have tagged the EMR as being an indicator of an individual employer’s safe working conditions. In other words a reflection of how safe an employer may run their company. While the EMR in it’s development may include some of the points that an independent verification of an employers safe working would include you should keep in mind that it is in fact a premium rating factor and that’s how it was designed to be used.

It seems like we’ve written about this topic until the cows come home! In past blogs and articles we’ve pointed out why the EMR, by itself, should not be used in this capacity. We’ve gone into detail about how changes in EMR formulas (increased split points for one) have created increases in EMR’s without an employer having incurred a single change in their claim record and how single shock losses actually drive up an employer’s EMR. How claims that occur outside of normal business operations (undiscovered uninsured subcontractors) and even non-compensable claims falling within the experience considered may create a negative situation on an employer’s EMR calculation. Do these situations really reflect an employers safe or unsafe working record?

It remains that the desire by some organizations to seek a single number that can be used as an all inclusive safety factor often times overrules common sense. That it’s easier to hang your hat on that single number because in fact trying to determine how safe an individual employer operates their business can be extremely complicated with many individual factors that would need to be considered.

Case in point, an employer who for many years has operated their business without incurring a single workers compensation claim, has enjoyed a very favorable EMR of let’s say .90 all of a sudden incurs a single shock loss that now drives their EMR to 1.15. Does this mean that they do not operate a safe business? Does it mean that just because they had a .90 factor they operated a safe business? How can that be determined simply by looking at their EMR of 1.15 or even their .90?

In fact, it’s an employer’s loss history and their actual injury history and incurred incidents that may be a much better indicator. And in consideration of this, there are other sources of data, such as the OSHA 300 Log, that may be more helpful in determining a real pattern of safe or unsafe working conditions or lack in injury control found within their business. I’d venture to say that simply relying on the EMR, without examining an employer’s full loss and injury history, as developed over time, does not provide an indication of safe or unsafe working conditions!

Let’s go back and consider that employer who has a current EMR of .90. From all indication using the EMR, it’s a safe operation. What about the most recent claim activity? You know, that most recent year past that hasn’t yet shown up in the current EMR calculation. What if they’ve incurred a significant loss that carries a high reserve that will significantly impact the following years EMR? So .90 is acceptable this year and 1.15 is not acceptable next year?

I’m sure you’re tired of me going on and on about this, me too, so let’s move on.

Mergers and acquisitions create a special situation for any experience rated employer acquiring another entity. When it comes to experience rating and how the “experience” of the entity being acquired is treated you should know a few things.

  • “Experience” means loss or claim history – More specifically those losses or claims that fall within the experience period.
  • The goal of a rating bureau –  to make sure that past experience of the acquired entity is carried forward and reflected in the acquiring entities EMR calculations going forward.
  • Experience of the company being acquired will almost certainly be transferred to the acquiring company.
  • There is only one combination of circumstances (if you’re dealing with NCCI as the rating bureau) where the experience of an acquired company will be excluded from the acquiring entities EMR calculations. And all three of these must be met. They are:
    • There must be a material change such that where the complete ownership after the acquisition had no ownership before the acquisition or where new ownership interest in less than 1/3 before the acquisition or ½ after the acquisition…yes this is confusing! And…
    • There is a significant change in operations that results in a change of the governing classification. And…
    • The change in ownership results in a change in the process and hazards of the operation.

I hope you’re getting the idea that when you buy or acquire another company you just can’t willy nilly do away with the workers compensation claim history and its effect on the EMR calculation!

An employer is required, as indicated in the workers compensation insurance contract, to report changes in ownership to its insurance company within 90 days of the date of change. Ownership changes can be reported to the rating bureau using two method:

  1. By completing form ERM-14 – This form is, to say the least, a bit complicated for most employers who first lay eyes on it! If this is your chosen method of reporting an ownership change you may ask for help from your insurance agent!
  2. By providing a written narrative of the change or acquisition in detail on the letterhead of the insured and signed by the insured or an officer.

So let’s recap what we’ve learned and what we know:

  1. The EMR wasn’t really designed to be a safety indicator, it’s a premium modifier that’s designed to reflect an individual employers specific loss history in the rating formula . Argue all you want (and I still do), but in reality, it is used as one, and will continue to be used as one!
  2. If you buy another company you buy their workers compensation claim and loss history.
  3. All claim and loss history, of a company being acquired by another, will most certainly carry forward and be included in the EMR calculation.
  4. Resulting effects on an acquiring entity EMR can come as a surprise and be drastic. (Think of going from something like a .85 to a 1.25 just because your company acquired or merged with another.)

Lesson Learned:

If the company you work for has indicated they are considering an acquisition or merger with another company don’t forget to have a complete experience modification rate, EMR, review conducted based on the experience data of the parties involved before the acquisition has been completed.

If you need some help, just contact a workers compensation consultant!

Hope this helps you out and thanks for reading!