Reinsurance Application
Presented By Alice Shumba
Head- Underwriting FBC Reinsurance
Training Objectives
By the end of the course, we should be able to:
•Define and understand the purpose of Reinsurance•Identify Types and Forms of reinsurance•Appreciate Application of Facultative Reinsurance•Appreciate Application of Treaty Reinsurance •Design a reinsurance Program
What is reinsurance?......
• The business of insuring an insurance co. or underwriter against suffering too great a loss from their insurance operations. Robert & Stephen Kiln- Reinsurance in Practice
• Transfer of part of the hazards or risks that a direct insurer assumes by way of insurance contract or legal provision on behalf of an insured, to a second insurance carrier, the reinsurer, who has no direct contractual relationship with the insured.’ M Grossmann, Reinsurance – An Introduction
• A relationship between two consenting adults.
……What is reinsurance?The Insurance Chain
What is reinsurancePURPOSE OF REINSURANCE
• Spreading risks recall the insurer’s risk transfer options
• Increasing Capacity• Stabilizing results• Managing Accumulations • Providing Expertise• Facilitating entry into new lines or territories• Tax advantage• Providing Security• Increasing stakeholder confidence• Managing Solvency to meet regulatory requirements• Cash-flow advantages- proportional treaties
Types of Reinsurance
• Facultative Reinsurance• Treaty Reinsurance• Facultative Obligatory
Business can be place on a proportional or Non Proportional basis
FORMS OF REINSURANCE
Types of ReinsuranceFACULTATIVE
• Facultative– It’s the oldest form of reinsurance– Optional– Ideally preserved for individual reinsurance
of large or hazardous single risks lets examine the following
• Motor? Engineering Plant? House owners? Mine assets?
– Risks usually ceded on original terms.– Traditionally placed on proportional basis
but non- prop now more common.
Types of ReinsuranceFACULTATIVE
• We opt for Fac when:– Original risk is hazardous- pollution– The risk exceeds the insurer’s treaty capacity-
Large risk– The risk is excluded from insurer’s treaty- territorial
scope, hazardous, more specifically insured elsewhere E.G Terrorism
– A risk has been accepted by the cedant for unique commercial, financial or political reasons. Otherwise it would be unacceptable because of its nature and size. THINK OF SUCH RISKS
FACULTATIVE
ADVANTAGES OF FAC DISADVANTAGES OF FACFreedom on whether or not to offer risk to a reinsurer of choice
Insurer can’t be certain of placement if there is no automatic cover. There can be delays in confirming cover until placement is done
Opportunity for reinsurer and cedant to build a relationship and understand each other’s underwriting styles
Reinsurer may require too much detail where if they are a competitor, insurer may be uncomfortable
Insurer may gain expertise on underwriting particular risks
Labor intensive & high admin costs- Errors (you may forget to place risk)
Protects treaty performance Reinsurer may take over control of underwriting and claims processes. Warranties, Surveys, appointment of assessors etc.
Fac Reinsurer may eventually get accepted as a treaty security
Reinsurer may exercise influence on the insurer’s standard assessment of risk. Insurer rates Motor 3% but reinsurer rates it 10%.
Types of reinsuranceTREATY REINSURANCE
• Treaty reinsurance is obligatory in nature for both parties to the contract
• Business is placed as a bouquet unlike fac where placement is on a single risk
• Limits, terms and conditions are set for the whole bouquet.
• Terms are agreed in advance usually at the beginning of the year.
• Sometimes labeled blind cover
Types of reinsuranceTREATY REINSURANCE
• Insurers use treaty when:– Risks are homogenous or have similar
exposures……not hazardous– There is a large number of such risks –
volume– S/I can be confidently placed within range
of each other…..size– there is reinsurance capacity for the types
of risk…..terrorism treaty
Treaty reinsurancePROPORTIONAL TREATIES
• Two main types in use are Quota Share and Surplus.
• Prop treaties directly compensate acquisition costs through commissions.
• Reinsurers cap liability using cession limit as well as event limit.
• Reinsurers follow usually original terms• Accounting usually done in arrears and on an
offset basis through submission of a monthly or quarterly return with or without a bordereaux
Treaty reinsuranceProportional treaty
• Contents of a bordereaux– Insured’s Name– Period of Insurance & Period of Reinsurance– Sum Insured– Reinsurer’s proportion /Retention– Reinsurer’s amount /Ceded risk– Gross Premiums allocated by class of business – Premium split between cedant and reinsurer– Deductions
Proportional treatiesCOMMISIONS
• Pricing of prop treaties is basically on the commission level.
• The more profitable and balanced an account is the more the commission.
• Types of commission– Flat commission– Sliding scale commission- Linked to loss ratio
– Profit commission
Quota Share• Risk, premiums, and losses are allocated between
cedant and reinsurer in the same fixed share.• Reinsurers participates in every risk and loss • Note - a quota share is usually named by the amount
ceded i.e a 60% quota share means 60% has been ceded and 40% retained.
• Mostly used when the S/I in a portfolio are relatively uniform e.g in motor or households
• Quota shares carry the highest ceding commissions• More ideal when fronting, entering new lines or
territory• Most ideal for reciprocal business• Ideal example of follow the fortunes.
Quota ShareCOMPONENTS OF QUOTE
Motor QS Retention(80%) 100% LimitMotor Own Damage 48,000.00 60,000Motor TPPD 48,000.00 60,000Motor TPBI 48,000.00 60,000Sum Insured Basis As per Original PolicyCash Loss Limit 4,000.00 Flat Commission 27.5%Profit Commission 15% (7.5%)
ME and LCFTEUnderwriting Year Basis As originalCo-Insurance 100%Facultative Inwards 100%Est. Prem Income for 100% 709,000
Surplus• Cessions only done for risks that exceed the set
retention level (line size)• Cessions will be done in multiples of the line up to the
agreed cession limit• Reinsurers only participates on losses from the ceded
risks i.e cedant carries all losses coming out from the retained risks
• Usually subjected to table of retentions• Ideal when portfolio contains a mixture of large,
medium and small size risks• Cedant retains more premium than under Quota share• The risk of unbalanced treaty is high
Surplus TreatyCOMPONENTS OF QUOTE
FIRE AND ENGINEERING SURPLUS
Retention 4,000,000Capacity 24,000,000Lines 6.00EML 50% min
33%(Referal)Facultative Inwards 50%Co Insurance 50%Event Limit 72,000,000Provisional Commission 36.50%Slide Comm-Fire 25%-45%
forLoss ratios 60%-40%Cash loss 45,000 Accounts Monthly EPI 3,500,000
Comparison of Q/S & Surplus
• Q/S generally has higher commissions• More premium is usually ceded under Q/S• You cannot vary the retention % on a Q/S• Reinsurer & cedant’s fortunes are similar under Q/S but
may be different under Surplus i.e one can make profit while the other makes a loss
• Surplus treaty has better cat protection• With surplus, the insurer either stands or falls by the
retention level chosen
Some Maths +÷×-SUM INSURED
PREMIUM LOSS 1 LOSS 2
RISK A 10,000,000 100,000 12,000,000 8,000,000
RISK B 12,000,000 120,000 10,000,000 200,000
RISK C 4,000,000 400,000 800,000 1,500,000
RISK D 800,000 80,000 600,000 2,500,000
DO THE ALLOCATION OF RISK, PREMIUM AND LOSSES UNDER THE FOLLOWING PROGRAMES1.90% QUOTA SHARE ARRANGEMENT WITH $9M CESSION LIMIT2.9 LINE SURPLUS TREATY WITH A RETENTION OF $1,000,000
Risk A answerRetained Risk %
Retained Risk Amt
Ceded Risk %
Ceded Risk Amt
90% Q/S 10% $1,000,000 90% $9,000,000
9 Line Surplus
10% $1,000,000 90% $9,000,000
Premium allocation Q/S retention= 10% X $100,000= $10,000Q/S cession= 90%X $100,000=$9,000,000Surplus retention= 1/10 X $100,000= $10,000Surplus cession= 9/10 X $100,000=$9,000,000Loss Allocation Q/S retention= 10% X $10,000,000 (limit) = $1,000,000Q/S cession= 90%X $10,000,000=$9,000,000Surplus retention= 1/10 X $10,000,000= $1,000,000Surplus cession= 9/10 X $10,000,000=$9,000,000•The risk is for $10m so there maybe underinsurance•The same calculation applies for 2nd loss
Risk B answerRetained Risk%
Retained Risk Amt
Ceded Risk %
Ceded Risk Amt
Fac % Fac Amt
90% Q/S 8.33% $1,000,000 75% $9,000,000 16.67% $2,000,000
9 Line Surplus
8.33% $1,000,000 75% $9,000,000 16.67% $2,000,000
• Note the inclusion of facultative. Risk is above treaty capacity ( More when we do designing) How did we get 75% on a 90% quota share treaty???
• If quota share did not have cession limit which is highly unlikely, then the Q/S contribution will remain 90%
Premium allocation Straight forwardLoss Allocation Use the same % distribution even for the $200k claim. Note fac
reinsurers still participate on the $10m claim with 16.67% share
Risk C answerRetained Risk %
Retained Risk Amt
Ceded Risk %
Ceded Risk Amt
90% Q/S 10% $400,000 90% $3,600,000
9 Line Surplus
25% $1,000,000 75% $3,000,000
Premium allocation Q/S retention= 10% X $400,000= $40,000Q/S cession= 90%X $400,000=$360,000Surplus retention= 25% X $400,000= $100,000Surplus cession=75%X $400,000=$300,000Loss Allocation Q/S retention= 10% X $800K = $80K And Loss 2 10% x $1m= $100kQ/S cession= 90%X $800k=$720k and Loss 2 90%x $1m=$900kSurplus rtn= 25% X $800k= $200k and loss 2 25% x $1m= $250kSurplus cession= 75% X $800k=$600k & loss 2 75%x $1m=$750kNote treaties have similar 100% capacities but operate differently because of movement in retention % on surplus
Risk D answerRetained Risk %
Retained Risk Amt
Ceded Risk %
Ceded Risk Amt
90% Q/S 10% $80,000 90% $720,000
9 Line Surplus
100% $800,000 0% $0
Premium allocation Q/S retention= 10% X $80,000= $8,000Q/S cession= 90%X $80,000=$72,000Surplus retention= 100% X $80,000= $80,000Surplus cession= NILLoss Allocation Q/S retention= 10% X $600K = $60K And Loss2 10% x $800k= $100kQ/S cession= 90%X $600k=$540k and Loss 2 90%x $800K(limit) =$720kSurplus rtn= 100%X $600k= $600k and loss 2 100% x $2.5m= $2.5mSurplus cession= NILNote- even if a claim is above the surplus retention point, The cession of the risk guides the allocation of losses.
Non Proportional Treaty• Unlike prop treaties, premium paid is not proportionally related to
risk carried.• Premiums usually paid in advance as Minimum and/or Deposit
Premium. There is no cession per risk rather the premium is for the whole portfolio.
• Distribution of Liabilities is based on losses rather than sum insured. So no need for cession bordereaux
• Losses only get paid once they exceed the excess point/deductible.• Reinsurers limit their horizontal liabilities through Reinstatements.• There is usually a limit on cover to cap reinsurers’ vertical liability.
If the excess of loss is protecting a prop treaty, its maximum retention can be used as the cover limit for Excess of loss.
• No commissions paid under non proportional treaties
Non prop treatiesPRICING
• Pricing of Non Prop treaties can be done using– Exposure rating
• Size, volume and nature of book• Average S/I in comparison with Cover Limit• Level of deductible• Volatility of claims in the reinsured class
– Experience rating• Burning cost based on e.g - 5 year Loss Ratio +
loading for inflation, costs and profit margin• Claims experience can warrant an increase or
reduction in loss ratio
Non Proportional treatiesPRICING
• Resultant Rate is applied to EGNPI to get provisional premium/ MDP.
• An Adjustment premium is paid at the end of the year when the AGNPI is known.
• GNPI (Gross Net Premium Income) is the Gross premium before deducting commissions but net of other reinsurances.
• The treaty can be Layered and priced according to exposure to losses
• The 1st layer is usually the working layer hence will attract a higher rate.
Non Proportional TreatiesExcess of Loss
• Excess of loss can be used to protect the following :– Risk Exposure– EML error exposure– Catastrophe Exposure – Know definition of event
e.g 72 hrs clause– Clash Exposure- Accumulation of different risk
classes in one event– One program may offer all this protection
Non Proportional TreatiesComponents of XL Quote
FIRE AND ENGINEERING XL TERMS
LAYER LIMIT DEDUCT RATE REINS MDP ROL EGNPI1st layer 1,650,000 350,000 5.94% 3 @ 100% amt 267,300 18.00% 5,000,0002nd Layer 2,000,000 2,000,000 2.00% 3 @ 100% amt 90,000 5.00% 5,000,0003rd Layer 4,000,000 4,000,000 0.80% 2 @ 100% amt 36,000 1.00% 5,000,0004th Layer 12,000,000 8,000,000 0.60% 2 @ 100% amt 27,000 0.25% 5,000,000Total 19,650,000 350,000 9.34% 420,300
Non Proportional TreatiesALLOCATION OF LOSSES
• In the quote above. Losses are paid once they exceed deductible.
• The Xl treaty covers the Ultimate Net loss to insured i.e loss that remains for the insured’s net account after other reinsurances have paid their proportions.
• Reinstatement premium is immediately deducted from the claim amount using this formula:– (Loss to layer ÷ Cover Limit for layer) X Premium…..if it is
100% pro-rata to amount only– X (days remaining in the year/365) ……if it is pro-rata
amount and time
XL Losses worked Example
• Using Risk A Loss 1: details were as follows– Retained Risk $1m which is the cover limit on XL – Retained loss was $1m. Using the above XL
program Recovery will be calculated as follows:– Loss to 1st layer $1,000,000- $350,000= $650,000– Reinstatement Premium ($650,000/$1,650,000) X
$267 300= $105 300– When paying the claim deduct reinstatement
premium i.e ($650k- $105,3k)= $544 700
Work to do
• Using the above XL program. Calculate amount paid to insurer on the following losses UNL. Assume Limit per risk of $4million– Sum Insured $3m Loss $200,000 D.O.L. 05/01/14– Sum Insured $2m Loss $1,500,000 D.O.L 25/01/14– Sum Insured $4m Loss $2,500,000 D.O.L 30/03/14– Sum Insured $8m Loss $4,000,000 D.O.L 28/08/14* how
far are you with reinstatement premium?– Sum Insured $700k loss $600,000 D.O.L 15/10/14* do you
still have enough cover?
Stop Loss & Aggregate XL• Stop Loss operates on pre agreed % while
Aggregate XL cover is expressed as fixed limits.• They are used to protect losses in a particular class
or an aggregation of an event. The insurer’s loss ratio is limited to a particular level and reinsurer will kick in up to the agreed limit.
• Most suitable in businesses where losses can have unpredictable spikes e.g in weather related covers like Hail insurance.
• Losses are only recoverable when the aggregate exceeds the deductible
Stop LossQUOTATION EXAMPLE
LAYER LIMIT DEDU RATE MDP EARNINGS EGNPI
1st Layer 120% of EGNPI or $3,600,000 90% of EGNPI or $2,700,000 1.5% 40,500 45,000 3,000,000(whichever is higher) (whichever is higher)
2nd Layer 150% of EGNPI or $4,500,000 120% of EGNPI or $3,600,000 0.5% 13,500 15,000 3,000,000(whichever is higher) (whichever is higher)
150% of EGNPI or $4,500,000 100% of EGNPI or $3,000,000Total (whichever is higher) (whichever is higher) 2.0% 54,000 60,000 1,500,000
Basis of Reinsurance
• Treaties can be placed using any of the following Basis:– Risk attaching during- Reinsurance in force when
policy commenced and received the ceded premium will pay claim.
– Losses Occurring During- Reinsurance in force at date of loss
– Claims made during- reinsurance in force when the insurer is first made aware of the claim will respond.
REINSURANCE DESIGNINGCONSIDERATIONS
• You want to determine whether you buy fac, prop or non prop treaty or a combination of all. Look at:
• Nature of the portfolio– Volume- Do you have sufficient numbers to have a treaty– Mix- Is there homogeneous exposure in your book, it may all be motor
but 50% could be excluded risks in your treaty– Size- Can you chose XL or quota share- Are the sums insured within
same range or vary significantly– Are there policies with unlimited Liability– Is portfolio subject to wide fluctuations in its annual results
Considerations• Capacity required- Do you really need it, is there automatic
reinsurance capacity for your risks. A treaty should at least cover the majority of risks written.
• Retention- your capital and risk appetite can determine this. Market norms can be a guide. No retention at all poses moral hazard
• Reinsurance costs- For XL you pay upfront, for prop you may cede more premiums
• How claims will be shared.• Exposure to accumulations• Loss experience• Cost of operating the reinsurance program
Considerations
• Reinsurers will require the following information to make a judgment on required cover as well as to price it.– Risk profiles– 5 year losses statistics– Required capacity/ Cat Limits– Estimated Income– Desired retention level by cedant– Classes of business covered– Potential accumulation for Reinsurer- Fac Inwards
Consideration
• Reinsurer will also make a judgment on– Standard of Management style– Experience of underwriters– Geographical distribution of business written– Financial standing of cedant– Past underwriting results– Exclusions, terms and conditions on the requires
treaty.
Lets DesignUsing Risk Profile
No. Of Risks
Total Sum Insured Premium
0 250,000 630 52,236,359 1,255,523
250,001 500,000 140 50,780,121 534,444
500,001 750,000 54 33,342,342 353,745
750,001 1,000,000 45 40,336,206 313,314
1,000,001 1,250,000 10 11,345,595 158,305
1,250,001 1,500,000 15 20,735,541 206,335
1,500,001 1,750,000 8 12,813,678 215,027
1,750,001 2,000,000 9 17,131,237 163,276
2,000,001 2,500,000 9 20,396,891 244,464
2,500,001 3,000,000 5 15,000,000 57,559
3,000,001 6,000,000 22 94,981,954 442,534
6,000,001 10,000,000 3 26,990,933 282,215
10,000,001 15,000,000 1 11,447,793 110,379
15,000,001 20,000,000 1 15,342,000 727,812 1 320,000,000 3,200
953 742,880,649 5,068,131
>20 000 000
Totals
Treaty Size
Designing
• Reinsurer May insist on deductible of at least $250,000.
• Insurer may want treaty cover up to $6,000,000– Is insurer willing to pay upfront XL premium for $6 million
cover in that case $5.75m Xs $250K. Will reinsurer be able to give you that and at what price? Note deductible is 4% of limit.
– Insurer may combine XL , Surplus and Fac. So you have 5 line surplus with retention of $1m. Giving total treaty capacity of $6m. Retention will be protected by XL of $750k Xs $250k. All risks above $6m will be placed on Fac basis
Another Example
No. Of Risks
Total Sum Insured Premium
0 5,000 39 142,280 7,546
5,001 10,000 91 750,691 31,755
10,001 15,000 36 463,047 48,611
15,001 20,000 36 667,660 47,303
20,001 30,000 41 1,034,512 92,423
30,001 40,000 44 1,638,535 73,732
40,001 50,000 35 1,635,448 105,885
50,001 60,000 27 1,456,920 99,907
60,001 70,000 19 1,245,429 37,306
70,001 90,000 24 1,896,796 89,825
90,001 120,000 29 2,944,180 159,205
120,001 200,000 16 2,606,308 91,115
200,001 250,000 1 250,000 3,334 3 1,188,833 50,810
441 17,920,639 938,757
>250,001
Totals
Treaty Size
• This example consists of balanced spread of small risks. An XL might be ideal
• There may be need for proportional cover protected by an XL. However, will the deductible amount remain reasonable?
• There really isn’t much need for Fac except for the 4 risks above $200k
• Most likely a motor account
THE END