APPLICATION: Monte Carlo Simulation

By Rafi Delica This was submitted as a mini-application paper in a Quanti subject in AGSB

BACKGROUND
Thousands 3,500 3,000 2,500 2,000 1,500 1,000 500 40000 35000 30000 25000 20000

by 2013, there will be about

Number of NMotorcycle Accidents

Number of Registered Motorcycles

3.27M motorcycles, 0.98M are in NCR 18.5K motorcycle accidents, mostly in NCR

15000
10000 5000 0

Others

NCR Motorcycles

Motorcycle Accidents

* Forecasted using linear regression with 97% and 99% goodness of fit for number of vehicles and number of accidents, respectively.
* Sources of Data: NSO, LTO, AAP Rafi Delica TSQuanti MBA AGSB-Regis 2012

PROBLEM
GRP3 Insurance Company is planning to offer low cost accident insurance to motorcycle owners/drivers. The insurance would cost P500 yearly and will have a maximum accident coverage of P10,000 and accidental death benefit of P100,000.

The management would like to know the following: a) If an annual gross margin of 33% is the target, how many policies should be sold at the minimum? b) if GRP3 Insurance Company was able to secure a contract with LTO to provide 30% or 40% of a mandatory accident insurance for all registered motorcycles in Metro Manila, what is the cheapest policy cost that can be allowed and still maintain 33% gross margin? c) How much average monthly revenue, expenses and margin can be expected? d) What are the risks in cash flow and liquidity?

Rafi Delica TSQuanti MBA AGSB-Regis 2012

Monte Carlo Setup

From the monthly motorcycle accident data, histograms and frequency tables were derived. The Number of Accidents per Month was binned into 8 categories, the Percentage of Fatal Accidents per Month was binned into 9 categories and the Percentage of Accidents where the rider was injured was also binned into 8 categories.

The resulting frequency tables are shown below.

ACCIDENTS PER MONTH Cumulative % Bin Frequency 0.00% 1300 0 25.00% 1400 3 50.00% 1500 3 58.33% 1600 1 75.00% 1700 2 83.33% 1800 1 91.67% 1900 1 100.00% 2000 1 FATAL (% of accidents) Cumulative % Bin Frequency 0.00% 0% 8.33% 4% 1 16.67% 5% 1 33.33% 6% 2 41.67% 7% 1 75.00% 8% 4 75.00% 9% 0 91.67% 10% 2 100.00% 11% 1 INJURED (% of accidents) Cumulative % Bin Frequency 0.00% 2.1% 0 16.67% 2.5% 2 41.67% 3.0% 3 58.33% 3.5% 2 75.00% 4.0% 2 91.67% 4.5% 2 91.67% 5.0% 0 100.00% 5.5% 1

Rafi Delica TSQuanti MBA AGSB-Regis 2012

Monte Carlo Setup

Monthly number of accidents were generated for 10,000

months (trials) The corresponding percentage of fatal and injured accidents were also generated for each month (trial). The insurance coverage (expense) was computed using the Accidental Death Coverage amount and the Hospitalization coverage amount
*at 10000 trials, the variation in average number accidents, fatality and injury is below 1% and we consider this as sufficient
number of trials

Rafi Delica TSQuanti MBA AGSB-Regis 2012

SNAP SHOT

Rafi Delica TSQuanti MBA AGSB-Regis 2012

RESULTS
Policy Amount Death Coverage Injury Coverage Expected Motorcycles in NCR Target Gross Margin (GM) Annual Death Annual Accident Total Annual Coverage Number Policies to Break-even* With 30% LTO With 40% LTO @ 50% GM Contract Contract PHP 500 PHP 617 PHP 463 PHP 100,000 PHP 10,000 981,485 50% PHP 115,444,560 PHP 5,714,368 PHP 121,158,928 242,318

Need to sell 242,318 policies to break-even At 363.5k policies sold, there will be an average of P5M monthly gross margin. If a contract is secured for 40% of registrants, the policy cost can be lowered to P463 and still get P5M monthly gross margin

Number of Policies for target GM* Number of Contracted Policies

Annual Revenue at Target GM Annual Expenses Average Monthly Revenue Average Monthly Expenses Average Monthly GM

363,477
294,446 PHP 181,738,391 PHP 121,158,928 PHP 15,144,866 PHP 10,096,577 PHP 5,048,289 PHP PHP PHP PHP PHP 181,738,391 121,158,928 15,144,866 10,096,577 5,048,289 PHP PHP PHP PHP PHP 392,594 181,738,391 121,158,928 15,144,866 10,096,577 5,048,289

*GM is gross only of revenues from policy. Expenses are for coverage only. *Reinvestment of funds, operating expenses, time value of money are not considered in the calculation

Rafi Delica TSQuanti MBA AGSB-Regis 2012

RISK ANALYSIS
Using the histogram, mean and standard deviations of monthly payout, we get the following probabilities for monthly payout reaching specific amounts:
Payout Probability

Frequency of Various Monthly Insurance Payout

1400 1200 1000 800 600 400 200 0 100.00% 90.00% 80.00% 70.00% 60.00% 50.00% 40.00% 30.00% 20.00% 10.00% 0.00%

10M 12M 14M 18M

20M

50.93% 32.21% 17.17% 2.75%

0.81%

Monthly Insurance Payout Frequency Cumulative %

Rafi Delica TSQuanti MBA AGSB-Regis 2012