Pricing war, reinsurers’ concern
Insurance continues to remain the backbone of modern society without which many parts of today’s world could not function effectively. Insurance protects people and businesses against the risk of unforeseeable events.
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It is a risk transfer mechanism by which the losses of the few are paid for by the many with the premiums based on the risk of each individual or entity. It is, therefore, imperative for the insurer to charge premiums commensurate with the risks presented by individuals and entities.
As Smith put it, "it is not from the benevolence of the butcher, the brewer, or the baker, that we can expect our dinner, but from their regard to their own interest."
Insurance premiums are expected to cover the likely claims arising from an insurance contract with a safety margin to ensure the long-term viability of the insurer. The profit of the insurance companies is defined mainly by the premiums they collect, profit from investment operations, insurance payments they make on account of insurance events, and their operating expenses. Insurance cash flows on a given contract occur at different times.
Often, premiums are collected and expenses are paid at policy inception, whereas losses are settled months or years later. Monies exchanged at different dates have different values, which relate to economic inflation, available interest rates, or the opportunity cost of capital (Feldblum, 1992).
Local competition
With the presence of 26 non-life insurance companies operating as of June 2015, the Ghanaian insurance market can be characterised as a competitive one.
The top five companies accounted for 60.6 per cent share of the total market in 2012 (little movement from 60 per cent in 2011). The non-life insurance Gross Written Premium stood at GH¢494.9 million witnessing a growth of 38 per cent (year-on-year) from 2011, according to KPMG’s Review of the Ghana Insurance Industry in July 2014.
Notwithstanding the level of competition in the non-life insurance industry, the industry is strictly regulated by the National Insurance Commission (NIC). The Commission has as part of its objective, as detailed in Act 724 to ensure effective administration, supervision, regulation and control the business of Insurance in Ghana.
It is mandated to perform a wide spectrum of functions including licensing of entities, setting of standards and facilitating the setting of codes for practitioners. The Commission is also mandated to approve rates of insurance premiums and commissions, provide a bureau for the resolution of complaints and arbitrate insurance claims when disputes arise.
Key concerns in the Ghanaian insurance industry over the years relate to low patronage, limited knowledge, the lack of confidence in the system, delays in claim payments, fraudulent claims and price undercutting.
Price undercutting
These factors continue to affect the growth of the industry. The National Insurance Commission (NIC) in April 2014 introduced the “No premium, No cover” policy, which requires insurance companies to collect premiums upfront before providing insurance cover.
It implies that insurance companies will no longer be required to sell insurance products on credit to customers. This laudable policy, however, has not curtailed price undercutting in the sector.
Prior to the introduction of this policy most insurance contracts allowed either a 30-day or a 90-day Premium Payment Warranty (PPW). This only stipulated that all premiums due to the insurers under the policy were paid within 30-days or 90-days from inception.
Ironically some insureds construed that to mean premium could be paid after these stipulated days.
The June 3 flood saw an influx of claims on Assets All Risk policies which include coverage for business interruption since many offices and factories were submerged for 12 hours. Motor Insurance topped the list of claims as several cars were severely damaged in the floods.
To the extent that insurance companies allow discounts such as No Claims Discount (50%), Special Discount (10%) and Fleet Discount (15%) on a single motor policy it is not out of place if one has cause to question the profitability of insurers.
Reinsurers and price undercutting
Some industry players have had cause to enquire about the role of reinsurers in price undercutting. Just as insurance is often viewed as having a regulatory effect on insured industries, should reinsurance be considered as having a regulatory effect on its reinsureds?
Reinsurance is a transaction whereby the reinsurer agrees to indemnify the insurance company against all or part of the loss that the latter sustains under a policy or policies that it has issued.
The insurance company pays the reinsurer a premium for the cover provided. It is important to emphasise that the premium paid by the insurance company is a proportion of what the insured paid the insurance company.
Insurance companies are dependent, to a varying extent, on the reinsurance industry. The purpose of reinsurance is therefore to spread risk.
Reinsurers receive their premiums much later than ceding companies, but may on the other hand be required to make immediate cash payments when large losses occur. This can result in fewer opportunities to compensate underwriting losses by investment income than for direct insurers.
A major distinguishing feature between reinsurance and insurance contract is that as far as reinsurance is concerned the programme is generally tailored more closely to the buyer; there is no such thing as the “average” reinsured or the “average” reinsurance price. Each contract must be individually priced to meet the particular needs and risk level of the reinsured.
Reinsurance arrangements
Reinsurance could be arranged in a proportional manner or non-proportional manner. In which ever manner, insurance companies either purchase reinsurance on a facultative basis, an obligatory basis or a combination of the two.
As far as proportional reinsurance arrangements are concerned, premium and claims are shared between the insurance company and the reinsurer in the proportion stipulated in the contractual agreement.
The price the reinsurer pays for receiving the business is the reinsurance commission. This commission, payable by the reinsurer to the insurance company, is usually expressed as a percentage of the original gross premium.
With regards to the non-proportional reinsurance, premiums are not shared proportionately and claims are fixed between the insurance company and reinsurer in advance. Distribution of claims depends on the actual claims amount. In calculating the premium, the reinsurer takes into account the claims experience made during the previous years or the future loss expectancy based on the risks involved.
Why reinsurers should care
Reinsurers, therefore, have a key role in ensuring that equitable premiums are charged by the insurance companies since it is from these premiums that the insurance companies will pay for the cover purchased.
Also, since in most cases the insurance companies retain relatively small shares of the risks reinsurers should be concerned about the pricing.
The writer is the Ghana Country Manager of WAICA Reinsurance Corporation. Email: [email protected]