Banks
Many banks use the money deposited by their customers to finance loans. They charge interest on the loans granted and use them to pay interest on the depositors’ balances as well as to cover their own costs and profits. In addition to this business with interest differentials, banks have developed countless additional products designed to increase a bank’s profitability. Some examples:
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- Financial consulting for bank customers
- Securities trading (shares, bonds and other investment products)
- Financing export and import transactions.
- Foreign exchange, coin and precious metal trading.
Bank managers focus on both, the profitability of the individual customer and on the profitability of the products offered. The purchase prices for shares, bonds and other traded products can usually directly be charged to the respective customer order. This also applies to the fees to be paid to suppliers on an item-related basis (direct costs of the order).
But the costs of actual banking operations can only rarely be charged to individual products or clients according to their origin. If for example the “Research” cost center recommends buying or holding certain shares, the costs of this recommendation can neither be charged directly to the individual client advisor nor to the client buying on the basis of this recommendation but only to all advisors and all customers.
The bank fees invoiced for the purchase or sale of individual securities can be charged to the client, his advisor or the security, but it is not possible to trace which portion of the fee is attributable to the advisor and which one to the executing traders.
This chain of arguments is intended to show that although the revenues generated from banking transactions can be determined per customer, the costs for the generation of these revenues arise in several cost centers. There it is seldom possible to record the time spent on individual products or customers in a way that reflects the source of the work, because in many cases there is no direct cause-and-effect relationship between the work performed and the product or customer.
Insurance Companies
By paying a premium (one-off or recurring), policyholders want to ensure that they do not have to pay themselves for financial claims arising from losses and to prevent to go bankrupt or lose significant parts of their assets as a result. In the knowledge that not all policyholders suffer losses, the insurance company tries to persuade as many customers as possible to sign an insurance policy and thus spread the risk across all customers.
The insurance company is financially successful if the premiums from all customers cover over time the costs of all insured losses to be paid as well as the company’s entire operating costs and its profit. This means that insurance management has a lot to do with statistics and estimating the financial development of risks. This is because the proportional product costs arise on the one hand from the losses that occurred and have to be paid for, and on the other hand from building up provisions for losses that are likely to occur (example: damage to buildings that may result in coastal areas from the melting of ice at the North and South Poles or damage caused by earthquakes or forest fires). Statistical analyses can be used to forecast the development of already known types of damage, while the insurance company’s specialists must estimate types of damage that have not yet occurred but are expected.
Incurred and expected claims are the main proportional product costs of an insurance company and must therefore be taken into account in the product calculation.
The sales organization of an insurance company is responsible for the net proceeds and contribution margins of existing and newly concluded insurance contracts. It must therefore know for each contract which product was or is to be sold to which customer groups via which sales channel, via which sales organization, in which region and by which salesperson.
This requires multidimensional planning and determination of the contribution margins per
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- Claim type (product)
- Product group
- Customer (policyholder), possibly industry
- Salesperson
- Insurance broker
- Sales region.
Like in a production or service company insurance companies must also determine the contribution margins achieved in the various product and market dimensions after deducting the proportional fixed costs and the fixed costs that can be clearly allocated to a specific dimension.
The key difference is that the proportional production costs of insurance companies also include the assumed costs of risks that have not yet materialized.
The extent to which an insurance company covers potential financial risks through reinsurance is not examined further here.