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The Actuary The magazine of the Institute & Faculty of Actuaries

In defence of failure

With exams over and the summer months now upon us (well, three hot days in May), actuarial thoughts are far behind us. Not for one man though, as this month, guest editor Matthew Pinkney of Hewitt Associates takes us through an actuarial justification of failure. We applaud the use of actuarial science in justifying that most fundamental of student experiences and look forward to seeing more practical applications of the actuarial control cycle. Get in touch at the usual address to claim your spot as guest editor of a future issue.

If you have any bright ideas for the Student Page, please e-mail jenandjean@the-actuary.org.uk

The next round of exam results will be released before too long, and no doubt those who have recently qualified will enjoy having a good chuckle to themselves (before using the actuarial control cycle to help make a bacon sandwich — the applications of that baby are endless).

But how upset should one be in the face of failure? Besides the ability to go around telling students that the exams are getting easier as they verge on a mental breakdown, what do we have to provide an incentive for our progression towards exam completion?

As exciting as being able to call oneself an actuary sounds, experience suggests that doing so in public will not result in people breaking out in spontaneous applause. More common, perhaps, is the following conversation:

- So, what do you do then?
- I’m an actuary
- [Cue silence accompanied by a slightly frightened expression”
- Among other things, I model financial risks in pension schemes and advise sponsoring companies and trustees about the contributions they need to pay to meet benefits in the future
- Oh right, so you sell pensions then?
- No [emphatically”. No, I don’t.
- Oh, right... [pause” I’ve been thinking about sorting my pension out recently. What do you think is a good one to get?

There is the pay rise that usually comes with exam passes but some back-of-the-envelope calculations seem to reveal fairly quickly that this is less valuable than the value of future study days if one fails. Of course, this depends greatly on how your firm’s study policy operates, in particular relying on people who fail being able to take some extra study days.

To demonstrate this, let’s suppose that a student failing an exam will take 10 extra study days in their career. If the student was on £30 000 per annum, this might be worth:

Number of extra study days / Number of workdays in a year x Salary
= 10 / 230 x 30 000 = £1300.

And if they passed the exam next time around, they would get the salary increase only six months later. So, in purely financial terms, the salary increase for passing the exam would need to be £2600 for it to be worthwhile to pass.

Looking at it from the company’s point of view seems to reveal a different story, however. The extra 10 study days could be valued at approximately:

Number of days x Charge-out rate x Chargeable hours per day
= 10 x 100 x 6.5 = £6500.

This would then need to be converted to an annual salary increase using an annuity factor over the period the higher salary is payable (namely, until the exams are complete, when the student is no longer one exam ‘behind’ — let’s assume this is four years). This suggests a salary increase of £1625 per annum.

Is £6500 really the cost to the company of someone failing an exam? Arguably not, as there is a chance that the person failing will leave before they take the extra study days. The cost could quite easily be nil in this scenario. We definitely need a withdrawal decrement, therefore, which raises additional questions (such as whether the probability of leaving the company increases with exam failure).

If we assume that there is a 50% chance the extra study days will be taken, we arrive at a salary increase of £813.

What can I conclude from this analysis? If your company awards between £813 and £2600 for passing an exam, and you are questioned about an exam failure, try suggesting that the failure makes financial sense for both you and the company. After all, that is what being an actuary is all about.

Matthew Pinkney

Ever get the feeling that something is missing from your life? Among the items left behind at previous exam sessions were passports, car keys, house keys, scarves, marbles, faith in the examination system, the will to live… the list goes on. If you’ve lost any property at exams, why not contact the Faculty or Institute?