FIN 340 Quiz 1 – Flashcards

1. A peril is a. a moral hazard. b. the cause of a loss. c. a condition which increases the chance of a loss. d. the probability that a loss will occur.

2. Taylor Tobacco Company is concerned that the company may be held liable in a court of law and ordered to pay a large damage award. The characteristics of the judicial system that increase the frequency and severity of loss are known as a. moral hazard. b. particular risk. c. speculative risk. d. legal hazard.

3. A name that encompasses all of the major risks faced by a business firm is a. financial risk. b. speculative risk. c. enterprise risk. d. pure risk.

4. The premature death of an individual is an example of a. a pure risk. b. a speculative risk. c. a nondiversifiable risk. d. a physical hazard

5. Following good health habits can be categorized as a. loss prevention. b. risk retention c. noninsurance transfer. d. personal insurance.

6. From the insured's perspective, the use of deductibles in insurance contracts is an example of a. risk transfer. b. risk control. c. risk avoidance. d. risk retention.

7. The use of fire-resistive materials when constructing a building is an example of a. risk transfer. b. risk control. c. risk avoidance. d. risk retention.

8. Jenna opened a successful restaurant. One night, after the restaurant had closed, a fire started when the electrical system malfunctioned. In addition to the physical damage to the restaurant, Jenna lost profits that could have been earned while the restaurant was closed for repairs. The lost profits are an example of a. direct loss. b. nondiversifiable risk. c. speculative risk. d. indirect loss.

9. Brad started a pest control business. To protect his personal assets against liability arising out of the business, Brad incorporated the business. Brad's use of the corporate form of organization to shield against personal liability claims illustrates a. fundamental risk. b. noninsurance transfer. c. risk retention. d. objective risk.

10. Cathy's car hit a patch of ice on the road. The car skidded off the road and hit a tree. The presence of ice on the road is best described as a(n) a. peril. b. subjective risk. c. physical hazard. d. indirect loss.

11. Ben is concerned that if he injures someone or damages someone's property he could be held legally responsible and required to pay damages. This type of risk is called a a. speculative risk. b. liability risk. c. nondiversifiable risk. d. property risk.

12. A risk that affects only individuals or small groups and not the entire economy is called a a. diversifiable risk. b. pure risk. c. speculative risk. d. nondiversifiable risk.

13. A special form of planned retention by which part or all of a give loss exposure is retained by the firm is called a. hedging. b. self-insurance. c. passive retention. d. noninsurance transfer.

14. Which of the following is implied by the pooling of losses? a. sharing of losses by an entire group b. inability to predict losses with any degree of accuracy c. substitution of actual loss for average loss d. increase of objective risk

15. According to the law of large numbers, what happens as the number of exposure units increases? a. Actual results will increasingly differ from probable results. b. Actual results will more closely approach probable results. c. Nondiversifiable risk will decrease. d. Objective risk will increase.

16. From the standpoint of the insurer, which of the following is a characteristic of an ideally insurable risk? a. The loss must be intentional. b. There must be a small number of unique loss exposures. c. The chance of loss must be calculable. d. The loss must be indeterminable.

17. Why is a large number of exposure units generally required before a pure risk is insurable? a. It prevents the insurer from losing money. b. It eliminates intentional losses. c. It minimizes moral hazard. d. It enables the insurer to predict losses more accurately.

18. Which of the following is a result of adverse selection? a. The insurer's financial results will be substantially improved. b. Persons most likely to have losses are also most likely to seek insurance at standard rates. c. It is unnecessary for the insurance company to use underwriting. d. Insurance can be written only by the federal government.

19. Which of the following is a form of casualty insurance? a. fire insurance b. general liability insurance c. inland marine insurance d. ocean marine insurance

20. All of the following are social costs associated with insurance EXCEPT a. insurance company operating expenses. b. fraudulent claims. c. inflated claims. d. increased cost of capital.

21. XYZ Insurance Company writes coverage for most perils which can damage property. XYZ, however, does not write flood insurance on property located in flood plains. Which requirement of an ideally insurable risk might be violated if XYZ wrote flood insurance on property located in flood plains? a. There must be a large number of similar exposure units. b. The loss should not be catastrophic. c. The chance of loss must be calculable. d. The losses must be determinable and measurable.

22. Insurance companies collect premiums in advance of loss, and the funds collected are not needed to pay immediate losses and expenses; these funds can be loaned to businesses. Because of this fact, insurance benefits society by a. enhancing credit. b. providing a source of investment funds. c. indemnifying losses. d. providing an incentive for loss prevention.

23. Adverse selection occurs a. when an insurance company loses money on its investments. b. when insurance purchasers buy insurance but do not have a loss. c. when catastrophic losses occur as a result of a natural disaster. d. when applicants with a higher-than-average chance of loss seek insurance at standard rates.

24. An insurance company that sells earthquake insurance in an area where earthquakes are possible has subjected itself to the risk of insolvency if a severe earthquake occurs. An insurer can safely sell earthquake insurance in this area if it shifts the risk of catastrophic loss to another insurer. The shifting of insured risk from one insurer to another insurer is called a. underwriting. b. casualty insurance. c. coinsurance. d. reinsurance.

25. The premium that insurance companies charge does not cover the cost of expected losses only. The premium must also cover the cost of compensating agents and other costs of doing business. The amount added to the pure premium to cover these costs is called the a. expense loading. b. deductible. c. dividend. d. loss reserve.