Chapter 1 Flashcards
Define: Cash Flow
any movement of cash into or out of an organization
Define: Cash Inflow (source of funds)
movement of cash into an organization.
From an insurance perspective, operating cash inflow comes from what two primary sources?
1) premiums and annuities
2) earnings from the insurere’s investment
Define: cash outflow (use of funds)
movement of cash out from an organization.
ie: benefit payout
Define: Profit
excess of money flowing in- known as revenue- over money flowing out known as expense.
Define: Revenue
an amount that a company earns from its business operations.
for insurance: premium income, annuity considerations, earning on investments and fee income
Define: Expense
an amount that a company spends in the course of conducting business
for insurance: payment to customers, sales commissions, training, salary and benefit costs.
compare net income (profit) vs net loss (loss)
if revenues are greater than expenses its profit.
if revenue is less than expenses its a loss.
What are two important financial statements seen in a company?
1) income statement
2) balance sheet
Define: Income statement
a financial document that lists a company’s revenues and expenses over a specific period, such as a year, and shows the resulting profit or less realized for that period.
Define: Balance sheet
a financial document that lists the values of a company’s assets, liabilities, and capital and surplus as of a specific date.
it uses a basic accounting equation.
basic accounting equation states what?
a company’s assets equal the sum of the company’s liabilities and capital and surplus
define: assets
all the things of value owned by a company. includes: investments, cash, buildings, furniture and land.
Define: Liabilities
company’s debts and future obligations.
Define Capital and surplus
the amount remaining after liabilities are subtracted from assets. Also known as owner’s equity.
For insurers, the majority liability item on the balance sheet is what?
contractual reserves.: which is a liability account that identifies the amount that, together with future premiums and investment income, an insuere estimates it will need in order to pay policy benefits as they come due.
How is the income statement linked to the balance sheet?
through Capital and surplus,
^ in a company’s value is one indication of profitability.
Define: profitability
reflects a company’s overall degree of success in generating returns for its owners.
it refers to both a company’s ability to generate profit and its ability to increase the wealth or value or the business.
what is stock?
type of financial security representing a share of ownership in a comapny.
compare profit with profitability.
profit measures a company’s short-term financial success, whereas profitability measures a company’s long-term financial success.
what are 3 important accounting standards for insurance companies in the states?
1) GAAP - stock companies follow. Mitial and freaternal insurers comply. profitability-basis accounting.
2) Statutory accounting practices: life insureres must follow. solvency basis accounting
3) internal (modified GAAP) accounting. financial reporting to management. internal.
Define Risk
as the possibility of an unexpected outcome.
Note: GReater the risk, the greater the potential return on the investment,
Define investment
any use of a company;s resources that is intended to generate a profit or positive return of some time.
Define Return
any rewards, profit or compensation an investor hopes to earn for taking a risk.
What is the term given to the interplay between risk and return?
risk-return trade-off.
What is a required rate of return?
expressed as the sum of the risk-free rate of return and the risk premium.
RROF = risk-free rate of return + Risk premium
What is the risk-free rate of return?
return on a risk-free investment.
* this return is the market yield on a short-term highly rated issue of the goverment ieL treasury bill.
What is risk premium?
the compensation that investors demand for taking on the risk associated with a specific investment.
Define Solvency:
a business organization’s ability to meet its financial obligations on time.
for insurance: refers to having assets at least equal to the sum of its required policy reserves plus min std of capital.
Define Insolvency
condition of being unable to meet its financial obligations on time.
What is required capital?
the amount of capital an insurere must hold to back the liabilities for in-force covered business.
For insurance company capital requirements, which two types of required capital are relevant?
1) Regulatory capital: legal min std capital that must be maintained to be considered solvent by regulatory auth,
2) rating agency capital: min std of capital an insurere must maintain in order to receive favourable quality rating from a specific rating agency.
what is a quality rating?
alphabetical grade or rating assigned to an insurance company by a rating agency to indicate the level of insurance company;s financial strength, its ability to pay its obligations to customers, or meet obligations to creditors.
What is a rating agency?
independently owned, private organization that evaluates the financial condition of insueres and provides information to potential customers of an investors in insurance companies.
What is Economic capital?
estimate of the amount of capital that a financial institution calculates to internally manage its own risks.
What do you call any capital held in excess of the minimum capital requirement?
uncommitted capital.
Who are typical stakeholders in an insurance company?
policy holders, bondholders, regulators, ating agencies, shareholders, home office employees and insurance producers.
Solvency regulation, AKA financial regulation, includes what 3 general areas?
1) balance sheet risk exposure
2) financial statement review
3) regulatory examinations
What are the two main threats to an insuere’s solvency?
1) inadequate capital
2) indequate liquidity
Define liquidity
having enough cash- ora assets that can be easily converted into casah- available as needed to meet obligations as they come due.
Contingency risks are generally separated into what 4 categories?
1) asset risk (C-1 risk) - risk that insuere will lose money on its investments.
2) Pricing risk (C-2 rick) risk experienced with product expenses or benefits will differ significantly from teh assumptions used in the products financial deisgn.
3) interest-rate risk (c-3 risk) risk that market interest rates might shift causing the insurer’s assets to lose value or its liabilities to gain value.
4) General management risk (C-4 risk) risk of losses resulting from an insurer’s ineffective general business practice or from the need to pay a special assessment to cover another insurer’s unsound business practices.
