Marine Insurance - Reinsurance Cost Pressures - 2009

Reinsurance, and in particular treaty reinsurance is a fundamental part of any insurers' internal risk management plan.

The protection of the company balance sheet and capital base from extremes in loss frequency and severity or aggregations is of critical importance to the viability of an insurer.

Reinsurance is a global business heavily intertwined with the trade, commerce and finance industries of most, if not every nation on earth.

Events of significance to, or which impact on the reinsurance industry will affect all insurers to some degree.

Recent events may combine to have a sizeable impact on 2009 reinsurance renewals.

Hurricanes Gustav & Ike

They did not have the same news profile as that attributed to Katrina and the subsequent flooding of New Orleans but, the most recent loss estimates suggest that Gustav & Ike will contribute significant claims to reinsurers. In particular, the oblique angle at which Gustav approached the Gulf Coast as it produced a greater than anticipated impact on the rather dense concentration of oil and gas facilities in that region.

Recently reported figures suggest a combined industry loss from Gustav and Ike in the US$20 - $25bn range (A$28 - 35bn). Losses of this magnitude will put pressure on many insurer and reinsurer margins.

Global Credit Crisis

The sub-prime mortgage problem in America has put the international banking industry in the spotlight. Some have failed and many forced to merge or seek funds from the State. The supply of credit has evaporated or become prohibitively expensive as inter-bank lending ground to a halt. In addition the dive in world share prices will bring ratings, valuation and capital adequacy pressures to many other companies across all market sectors.

Introduction Of more immediate concern to the Insurance Industry is the potential for capital to disappear or be re-directed away from reinsurance. In addition, poor investment decisions may have a profound impact on otherwise secure businesses and downgrades may result where ratings agencies are obliged to delve more fully into any affected company.

Impact on Reinsurance

Reinsurance cost pressures will develop due to:

o Reinsurer difficulties in sourcing new capital and/or an increased cost of capital.

o Capital Market demands for increased returns.

o Capacity restrictions.

o A flight to quality (of security) - cedants to reinsurers and vice versa.

o Reduced return on investments.P

o Write-downs in value of investments.

Recent comment from reinsurers suggests an upward pressure on treaty pricing for the December 2008 renewal season with flow on effects to insurance contracts during 2009.

What is RTI (Return to Invoice) GAP Insurance?

RTI Gap Insurance is a vehicle protection insurance plan that fills the financial deficit often left when insurance company settlements are lower than expected upon a total loss insurance claim. GAP insurance is not a replacement for existing motor insurance policy, but a valuable supplement that protects you against serious financial loss if your car is written off.

Even if you have fully comprehensive motor insurance, your motor insurer will almost certainly only offer you the current market trade value for your vehicle at the time of a claim, leaving you with a shortfall of potentially several thousand pounds. In other words, the insurance pay-out is nowhere near enough to replace your vehicle with the same and in some cases, settlements are not even enough to pay off your existing finance agreement.

Return to Invoice GAP Insurance does exactly that, it pays you out to the original Invoice selling price of your vehicle by effectively "topping up" your main car insurance payout with the amount required to return you back to the total sales price as detailed on your original invoice provided by the supplying dealer.
How does RTI GAP Insurance work?

In the event of your vehicle being written off, RTI GAP Insurance will pay the difference between your Motor Insurance Payout and the amount that you originally paid for your vehicle.

RTI GAP Insurance is available for new or used vehicles with a value of up to £80,000 and must be taken out no later than 90 days after you took delivery of the vehicle.
Example
Let’s say you purchase a vehicle for £29,995.00

Two years later, the vehicle is written off and your motor insurance company offer you only £20,000.00 as a settlement.

If this happened, RTI GAP Insurance would pay the £9,995 difference between your Motor Insurance payout (£20,000) and the original invoice price you paid for the vehicle (£29,995).

If you have purchased the vehicle by way of a Finance Agreement, in most cases (not all) receiving the full original invoice price back will allow you to clear the remaining balance of your finance agreement and have money left over to put towards a new vehicle.
For more information, or if you would like a quote on this policy and others please click on the link below, you can also view all the policy terms and conditions.

Solvency II - Will Investor Community and Policy Holders Benefit From the New Regulatory Directive?

Solvency II is a new framework developed by the European Commission which will update the existing outdated Solvency I regime.

The European Parliament approved the Solvency II framework directive on 22 April 2009 and it is now scheduled to come into force on 31 October 2012. Solvency II will result in one of the largest changes ever experienced by insurance industries across Europe and will change capital requirements for insurance companies. The change could be compared with the way Basel II changed capital requirements for banks.

This article describes the far reaching implications of the Solvency II program implementation for both the investor community and policy holders.

Current regime.

The current solvency regime is outdated since it was created in the 70's with some small changes as from January 2004 (Solvency I). According to the Solvency I directive the required solvency margin is set to: Life: 4% of the reserve and 0.3% of risk capital. Non-life: percentage of premiums, namely 18% of the first 10 million and 16% of the remainder.

This situation does not reflect risk properly and in some cases current rules can actually conflict with best practices in risk management. For example a company that increases its non-life premiums with no changes in liabilities reduces its risk of insolvency, but its capital requirements would increase.

Why Solvency II?

The main objective of (re)insurance regulation and supervision is adequate policyholder protection. Other objectives such as financial stability and fair and stable markets should also be taken into account but should not undermine that main objective.

The change in the required capital ratio for individual companies will depend on their own risk profile. Companies with lower risk will have significantly lower solvency requirements.

In particular, capital requirements will reflect the specific risk-profile of each (re)insurance undertaking. Insurers that manage their risks well - because they have rigorous policies, use appropriate risk-mitigation techniques, or diversify their activities - will be rewarded and allowed to hold less capital than under the current EU regime. On the other hand, poorly managed insurers, or insurers with a larger risk appetite, will be asked to hold more capital in order to ensure that policyholder claims will be met when they fall due.[1]

The Three Pillars of Solvency II

Solvency II adapted the same pillar structure as Basel II.

Pillar I determines future "target capital" and "safeguard capital" requirements and provides quantitative requirements.

Pillar II defines more qualitative requirements, the internal risk controls, and the role of supervisors.

Pillar III installs sound risk management by disclosure, and transparency requirements introducing control by the market and consumers.

Key market drivers:

The following market drivers have been identified during market research conducted by Capgemini: consolidation/ M&A, new products, distribution, cost control and, profitability, regulatory and investor pressures on risk provisions, capital markets volatility, outsourcing non-core business.[2]

The current business environment requires quicker ROI, speed to market and transparency.

The future conditions will create a consistent view on solvency measures across all parties. The main measurements are:

MCR - Minimum Capital Requirement:

A level of capital below which ultimate supervisory action would be triggered

SCR - Solvency Capital Requirement

- Standard Formula
- Internal Models

A level of capital that enables an institution to absorb significant unforeseen losses. It also provides a reasonable assurance to policyholders.

Capital adequacy: pillar 2 and 3 assessment.

The starting point for the adequacy of the quantitative requirements in the (re)insurance sector is the solvency capital requirement. Therefore supervisory authorities may require more capital only under strictly defined exceptional circumstances following the Supervisory Review Process.

Lessons from Basel II:

The main lesson learned from the experience in the Basel II program implementation is that the whole project is not just a risk modeling exercise; business should take a driving seat. The Program Structure and Governance is one of the key areas to address, along with other crucial areas - definition of Technology Strategy, Data management, Pillar 2 and ERM implementation.

Differences between Solvency II and Basel II:

The main difference is the requirement that Solvency II models and risk management systems be truly integrated into the firm's business decision process. That will be assessed during supervisory visits and interviews and through documentation - i.e. do the Board and relevant committee papers and minutes clearly indicate that capital and risk considerations have been fully communicated and incorporated into decisions.

Consequences for supervisors and rating agencies.

Supervisors have the power to enforce additional capital requirements.

Supervision shall be based on a prospective and risk-oriented approach. Solvency II therefore adopts an economic risk-based approach which allows for a system that reflects the true risk profile of (re)insurance undertaking... particular care has been taken to ensure that the new solvency regime is not too burdensome for small and medium-sized (re)insurance undertakings.[3]

Rating agencies are also actively involved, by focusing on the ability of insurance companies to quantify and manage risk. The rating analysis contains nine elements. Two of these - management and corporate strategy, and enterprise risk management (ERM) - have similarities with Solvency II Pillar 2. Four further elements; capitalisation, investments, liquidity and reserves, are more aligned with Pillar I.[4]

The view of industry associations.

One of the top priorities identified by both the CEA (European assurances commission) and CRO forums is valuation of insurance liabilities.In this area two main methods have been identified; Market value liabilities (MVL) -Definition: 'The value at which the liabilities could be transferred to a willing, rational, diversified counterparty in an arms' length transaction under normal business conditions (= no fire sale or 'large volume' discounts)'.

The MVL can be decomposed into two component parts:

1. The value of the Financial Components (FC)-incorporating 'best estimate' actuarial assumptions

2. The value of Non-Financial Components (NFC), that covers the uncertainty of those non-financial actuarial risks.

Each component should be valued using an appropriate cost of capital for all risk, not through the use of a common Weighted Average Cost of Capital (WACC).

The value of hedgeable risks should be determined by mark-to-market approaches, i.e. where market prices can be observed they should be used; this is conceptually identical to a best estimate plus market value margin (MVM) approach, except that in this case the observed market price already includes the MVM

o The value of non-hedgeable risks is determined by an appropriate mark-to-model approach:

For non-hedgeable insurance risks, liability values are determined as best estimate plus MVM based on a 'cost of capital' approach

Next steps:

Recently some insurers participated in Quantitative Impact Studies (QIS), the last one being QIS4. These studies are used to test the design and calibration of the future European Standard formula. Participation is voluntary and allows firms to obtain an early indication of work needed and influence the Solvency regime.

A key objective of QIS4 was to study the effect on the own-funds of insurance

undertakings and groups. The overall quality of response was high and most firms completed at least the main data input items in the spreadsheet.

The next year will present the next big milestone for insurers. Firms must be able to demonstrate that they satisfy the dry run entry criteria and have made significant progress towards meeting internal model requirements. Firms must also be in a position to articulate the results of their gap analysis and plans to action.

Conclusion:

The EU Commission President Jose Manual Barroso said recently:

"Solvency II will help protect policy holders from bad practice. It will help shield our economies against a repeat of the disastrous excessive risk taking by financial institutions, including certain insurance operators, that has contributed to the global crisis."

The main benefits for stakeholders such as investors, customers/policyholders, supervisors are the following:

* Establishment of a more competitive single market
* Better product pricing
* Increased efficiency in the use of capital and improvement of profitability
* Shifting from volume based solvency requirements to risk based rules which will benefit all stakeholders.
* Closer alignment between the insurance companies, regulators and rating agencies can only be beneficial to all stakeholders.

Insurers applying best practice will be further rewarded by investors, market participants and consumers.[5]

The firms which will take early actions can gain an advantage against competition and increase their shareholders value.

References:

1. CEIOP. Solvency II directive.

Do you want to learn more about Risk management? Does your organisation require help in setting up and benchmarking of the Continuity Management framework?

Welcome to The Capitol City Insurance Agency and its subsidiary, The Insurance Store.

As an independent agency, we do not work for any one insurance company, we work for you as your representative to find the best insurance products at the best prices.

Our “Guardian Program” helps you protect your business assets by reviewing risks and exposures through a comprehensive risk assessment process and providing a Blueprint designed specifically for you.

Capital Expenditure Versus Revenue Expenditure

In the realm of financial accounting, various classifications exist to determine how to treat values. With reference to expenditure, financial accountants need to know whether to treat it an as asset or expense. Capital expenditure and revenue expenditure are the two fundamental classes of expenditure.

Capital expenditure refers to expenditure on the procurement or enhancement of non-current assets (assets that the business intends to keep for 12 months or longer). Revenue expenditure refers to expenditure that the business incurs either for the purpose of trade or for maintenance of the earning capacity of non-current assets.

The key issue between capital and revenue expenditure is whether it can appear in the Statement of Financial Position (balance sheet) or not. Any expenditure that does not increase the net book value of non-current assets or result in the appearance of a new one on the Statement of Financial Position is an expense. Recall that expenses are deducted from gross profit in the Statement of Comprehensive Income.

Naturally, classifying expenditure as revenue or capital expenditure is important, since it would determine the impact on the assets of the business or its profitability. It is also critical to note that actions on a non-current asset can result in either class of expenditure. For instance, suppose a business purchases a motor vehicle and has it modified to improve its fuel efficiency. In addition to this, during the course of the year, other expenses like insurance and maintenance crop up.

The amount that the business used to purchase the vehicle is capital expenditure because the motor vehicle would now appear on the Statement of Financial Position and the business intends to keep the car for more than a year. The cost of the modification to improve fuel efficiency is expenditure that improves the earning capacity of the motor vehicle and increases its net book value. Therefore, the modification is also capital expenditure and should not be written off as an expense. The insurance and maintenance costs associated with the motor vehicle represent revenue expenditure on a non-current asset.

Although capital expenditure is not charged to the income statement, depreciation on non-current assets eventually account for the capital expenditure over time. Recall that accumulated depreciation decreases the net book value of a non-current asset and the current depreciation expense is charged to the income statement. This helps to reinforce the fair presentation assumption.

The distinction between capital and revenue expenditure is critical in financial accounting as it determines the treatment of the expenditure and how the business' operations are presented.

Are you paying too much for auto insurance?

Welcome to the website for Capital Insurance Brokers, Edmonton's premier north-side insurance brokerage. As independent insurance brokers we shop the insurance companies to get you the best auto insurance quote. We take the time to learn what matters most to you. We find you insurance that fits, helping you compare car insurance quotes from a number of insurance companies. We know that everyone has different needs so with an independent insurance broker, you can be sure that you get the specialized knowledge, personal attention and unbiased advice of insurance experts, who work for you, not the insurance company.

The Importance of Strong Operations, Capital, Tax, Debt Service and Insurance Reserves

As investors the attraction of keeping cash in our pocket can seem irresistible. When our property is performing well and the cash flow is strong, we are tempted to believe that with so much available cash each month that reserves are not necessary. We can convince ourselves that the risk is not worth the worry or the cost. However, protecting the asset is as important as making the cash flow. Because of this, strong reserves are critical.

The temptation to take reserves and enjoy the cash is strong. Reserves can hold $10,000 or $100,000 or even $1,000,000 captive on relatively small investments. When large sums such as this are involved the temptation to make other use of these funds is strong.

However, a tax lien, the catastrophic loss of a building, the failure to make needed capital improvements can be much more damaging. The failure to fund reserves results in potential catastrophic asset loss and eroded asset value.

In many cases, if taxes are not paid, a property could face a tax foreclosure in a matter of less than 6 months. Tax reserves are a critical to protecting the investors' asset. Immediately behind tax liens, a well run property should maintain reserves to assure insurance is maintained, to guarantee that if occupancy drops or income wanes that interest and principal payments will be kept current, and to assure that needed improvements to the project will go forward.

The purpose of debt cost reserves is obvious in the same way that tax and insurance reserves are easy to understand.

Capital and operations reserves are more easily skipped. Over the course of time, these decisions will insidiously undermine income pushing the potential income of the property downward. If the situation persists long enough and serious enough improvements are not made the property can become unrentable. All at once a quality asset becomes a burden and a loss to the investors. Additionally, if capital reserves are kept steadily, strong the owners and management will have the opportunity to make good choices that instead of preventing value erosion will lead consistent asset appreciation. Truly, the result creates reinforcing positive results just as not funding creates consistently damaging results.

Value focused owners will see to adequate tax and income reserves, well planned debt cost reserves, and steady strong capital reserves. Making this choice protects invest capital and offers the potential of steadily appreciating total asset value - the preferred goal of any serious investor.