CFO's Guide: Cost & Risk Management in Real Estate

How CFOs Can Optimize Costs and Risk Management in Commercial Real Estate

In today's evolving commercial real estate landscape, chief financial officers (CFOs) face the complex challenge of balancing cost control and risk mitigation. With the post-pandemic environment bringing higher interest rates, inflationary pressures, and reduced office space demand, companies must adapt their financial strategies. This article explores two key areas where CFOs can take action to optimize costs and fortify risk management:

• Managing property and casualty insurance costs
• Mitigating cybersecurity risks

The commercial real estate sector has undergone major shifts recently, presenting CFOs with a difficult balancing act. On one hand, macroeconomic trends like rising inflation and interest rates necessitate prudent cost management. On the other hand, evolving risks around property damage, liability, cyber threats, and more require vigilant risk mitigation efforts. By taking a proactive approach in these two critical domains, CFOs can help their firms improve financial performance while safeguarding against key downside risks.

Managing Property and Casualty Insurance Costs

Over the past few years, property and casualty insurance rates have risen sharply, driven by factors like:

• Inflation
• Catastrophic weather events
• Climbing construction expenses

Average commercial premium hikes peaked at 20.4% in early 2023 before moderating to 11.8% by year-end. With experts predicting premium increases from 5-25% in 2024, diligent insurance oversight is essential.

For commercial real estate companies, property and casualty policies cover risks including property damage, business interruption, liability claims and more. As rates rapidly increase, insurance costs can quickly eat into margins if not carefully managed. CFOs thus play a vital role in overseeing insurance programs to control expenses.

Conduct Regular Policy Reviews

To rein in costs, CFOs should thoroughly review insurance policies at least annually to confirm adequate coverage levels and identify potential savings opportunities. Key areas to examine include:

• Coverage limitations or exclusions that leave exposure gaps
• Rising deductibles that drive up out-of-pocket costs
• Policy terms that may be outdated or no longer optimal

Being over- or under-insured can significantly impact finances if claims arise. Closely evaluating insurance outlays helps pinpoint coverage gaps that may lead to high self-insured retention costs after an incident. Comprehensive reviews also allow CFOs to better forecast realistic premium bumps across different property types based on evolving risk factors.

Optimize Risk Profiles

CFOs can also work with risk managers and insurance advisors to optimize risk profiles and potential cost savings through:

• Enhanced data collection and risk analysis to pinpoint vulnerabilities, reduce uncertainties, and improve underwriting
• Risk management enhancements like safety audits, loss control services, and emergency response planning
• Policy structure improvements such as higher deductibles or optimized limits and sub-limits
• Alternative risk financing solutions like captives and risk retention groups

The goal is structuring policies to meet coverage needs at the lowest viable premiums. Even modest optimization can yield considerable savings over time as rates rise.

Consider Premium Financing

Premium financing spreads insurance payments over installments, improving cash flow compared to lump-sum premiums. The interest paid is usually tax-deductible, providing additional savings. CFOs can assess financing options to ease budget pressures and minimize the impact of premium hikes.

Prioritize Cyber Risk Management

With cyber threats growing, regularly evaluating and bolstering cybersecurity measures can positively impact underwriting and premiums. Steps like penetration testing, policy reviews, and training can demonstrate improved risk postures to insurers. Prioritizing cyber hygiene, signals policyholders are investing appropriately to mitigate emerging risks.

Mitigating Cybersecurity Risks

Cybersecurity gaps present mounting risks for commercial real estate - from financial and productivity perspectives to reputation damage. The 2023 average cyberattack cost on US organizations doubled to $95 million. Firms deficient in cybersecurity processes may also face liability for related damages.

With the sector's deep reliance on connected systems and data, vulnerabilities can severely impact properties, transactions, and operations. Beyond direct costs, cyber incidents can hurt tenant and investor confidence, harming reputation and growth. As stewards of risk management, CFOs thus have a key role in assessing and addressing cyber risks.

Fulfill Risk Management and Compliance Duties

CFOs should guide cyber risk mitigation investments based on potential financial and reputational impacts. Per the SEC, public company executives and directors may have risk oversight duties under laws like Sarbanes-Oxley. The SEC also began requiring disclosures on cyber risks, governance, and incidents from public REITs and other companies in mid-2023.

Conduct Thorough Cyber Risk Assessments

Steps CFOs can take include:

• Working with IT and security specialists to thoroughly evaluate cyber risk exposures across the enterprise. This identifies vulnerabilities and prioritizes remediation efforts.
• Ensuring cyber policies and controls comply with emerging regulations. Adopting leading governance standards can further improve risk preparedness.
• Prioritizing cybersecurity investments by potential financial and reputational impact. Focusing resources on the highest-risk areas optimizes spending.
• Exploring cyber insurance policies to transfer some risk cost-effectively. Insurer partnerships can also strengthen cyber programs.
• Promoting organization-wide cyber awareness through training. Empowered employees are an invaluable line of defense.

Guide and Prioritize Cybersecurity Investments

| Cybersecurity Investment Prioritization Factors | |-|-|

| Potential financial impact | | Potential reputational impact | | Likelihood of attack | | Cost vs risk reduction | | Compliance necessity | | System criticality |

CFOs should direct cybersecurity spending to maximize risk reduction within budget constraints. Quantifying potential impacts and risk levels allows prudent allocation. Third-party support can provide objective insights to inform decisions.

Consider Centralizing Data Security

Consolidating sensitive data storage, access permissions, and multi-factor authentication streamlines protection. This limits exposure points compared to dispersed credentials and data.

Evaluate Cyber Insurance

Cyber policies can cost-effectively transfer some risk impact. CFOs can assess optimal coverage and limits to supplement other measures affordably. Insurer guidance can also improve programs.

Promote Training and Vigilance

Well-trained, cyber-conscious employees provide invaluable human defense. CFOs can advocate ongoing education to update staff on evolving threats, secure practices, and incident response. Promoting a vigilant culture boosts resilience.

Conclusion

By taking proactive measures to control insurance costs and enhance cybersecurity protections, commercial real estate CFOs can help their firms improve financial performance and risk postures for greater stability and success.

Today's commercial real estate landscape presents complex, interrelated challenges around cost and risk management. As explored above, CFOs play an instrumental role in navigating these issues through strategic oversight of:

• Property and casualty insurance expenses
• Cybersecurity preparedness

Taking proactive steps to optimize these critical areas allows companies to operate on a sounder financial footing while safeguarding against key risks like rising premiums and cyber threats. With diligent monitoring, analysis, and investment guided by financial leaders, commercial real estate firms can emerge stronger and better positioned for the future.

In summary, by making insurance cost optimization and robust cyber risk mitigation top priorities, CFOs can provide tremendous value. Their financial acumen and enterprise perspectives enable identifying and capturing savings while directing resources to strengthen protections where needed most. Amid a complex risk environment, proactive CFO stewardship provides a vital foundation for commercial real estate companies' resilience, growth, and success. With informed guidance grounded in strategic risk-cost balancing, CFOs help lead their firms toward a secure future.