Chapter 1 - Structure of the Insurance Industry Flashcards
What are the three types of insurance company?
Composite, Life and General Insurance
What is a composite company?
An insurance company that transacts both long-term business (life) and general business, such as motor, household, aviation and public liability
What is a life company?
A life insurance and pensions company that is only able to transact long-term business
What is a general insurance company?
An insurance company that is only able to transact general business (i.e. not life)
What does ABI stand for?
Association of British Insurers
What is the purpose of the reinsurance market?
To limit (as much as possible) annual fluctuations in the losses that affect underwriting accounts (often referred to as ‘smoothing the underwriting result’
To be protected in case of a catastrophe
What is a Financial Mutual?
An organistation that supplies financial services products and is owned by its customers (or members). There are no shareholders meaning profit can be shared with customers by way of lower premiums or higher life insurance bonuses. A mutual can concentrate entirely on delivering good products to customers rather than ensuring a profit for shareholders.
Mutual companies can transact life or general insurance business.
What is the process of demutualisation?
As it suggests, it is the process of a mutual company registering as a proprietary company. They may still retain the word ‘mutual’ in their title however.
What does AFM stand for?
Association of Financial Mutuals, formed in 2010, is the trade body that represents mutual and not-for-profit insurers, friendly societies and other financial mutuals across the UK.
What is a captive insurance company?
The parent company forms a subsidiary company to underwrite certain of its own or its group’s insurable risks
What are the main incentives of forming a captive insurance company?
- to obtain full benefits of the group’s risk control techniques by paying premiums based on its own loss experience
- avoidance of the direct insurers’ overheads
obtaining a lower overall risk premium level by purchasing reinsurance at a lower cost than that required by the conventional or direct insurer; and - to achieve their risk financing objectives
Where are many captive insurance companies based?
Offshore locations, such as Bermuda, Gibraltar and the Channel Islands
What is a Takaful insurance company?
Takaful (meaning ‘guaranteeing each other’, is a type of insurance that has its roots in the Islamic financial services industry, based on Sharia law rulings.
It works on the principle that, in any transaction, risk and profit (and loss bearing) should be shared between the participants.
What issues do Muslims who follow Sharia law take with conventional insurance?
- Gharar (uncertainty) - Islamic law forbids sales where there is risk to the buyer, unless the risk is of a normal or reasonable proportion. Some believe traditional insurance policies do not remove uncertainty because how much and when, if at all, a policy will pay out remains uncertain.
- Maisir (gambling) - traditional insurance policies are seen to be a sort of gambling because some policyholders receive payouts whilst others do not. Gambling is forbidden under Islamic law.
- Riba (interest) - Islamic rules also forbid making money from money, such as through interest. Wealth can only be made through the trade of assets and investments.
What are the five Islamic principles that Takaful insurance embraces?
- mutuality and cooperation
- shared responsibility
- joint indemnity
- common interest
- solidarity
What is the most common format that reinsurance is provided by?
Treaty - this is usually an annual contract agreed in advance with fixed terms.
There are two types of treaty in this context; Proportional and Non-Proportional
What is a proportional treaty?
In the context of reinsurance, it is where the insurer and reinsurers take a stated proportion of each risk and share the premium and claims on the same basis.
What is a non-proportional treaty?
In the context of reinsurance, it allows an insurer to retain the first layer of cover and transfer the balance to reinsurers (i.e. it is not split proportionately and premium/claims split on the same basis, as is the case in a proportional treaty).
What are the seven main distribution channels for selling insurance?
- Direct Insurers
- Independent intermediaries and agents
- The Internet
- Price comparison websites (Aggregators)
- Banks and Building Societies
- Affinity Groups, including retailers and membership groups
- Market disruptors
What is meant by a market disruption?
Something which profoundly changes the business landscape and forces organisations to undergo significant transformation - COVID-19 is an example of a market disruption.
What is meant when a business is described as having a “stakeholder perspective”?
In terms of the ethics of business, this business considers it has a role to play in society beyond what is required by law. Sponsorship and community projects are good examples of this. Today, many financial organisations follow this perspective.
What does ESG stand for?
Environmental, Social and Governance
What legislation is in place in relation to ESG law or regulation?
No specifc law is in place in the UK, however, the Companies Act 2006 requires annual reporting of ESG disclosures for larger companies that are listed, have more than 500 employees or exceed £5m annual turnover.
In 2022, the Companies Act also required the reporting of non-financial information including sustainability details such as energy usage and carbon admission as part of annual reports.
Additionally, starting in 2023, ESG reporting in the UK will be further degined through SDRs (Sustainability Disclosure Requirements).
What is meant by SDRs?
Sustainability Disclosure Requirements - they offer a framework for companies to handle sustainability opportunies, potential risks, and effects, whilst also establishing measurable goals and objectives.
Full mandatory disclosure is not expected to be a legal requirement until 2025.
What are the 5 elements of the CII Code of Ethics?
- Comply with the Code and all relevant laws and regulations
- Act with the highest ethical standards and integrity
- Act in the best interests of each client
- Provide a high standard of service
- Treat people fairly regardless of age, disability, gender reassignment, marriage and civil partnership, pregnancy and maternity, race, religion and belieg, sex and sexual orientation
What is the definition of organic growth?
From Peter Drucker, organic growth is the rate of business expansion through increasing output and sales. I.e. not through mergers or acquisitions.
Give some reasons why a company would want to grow
- increasing consumer incomes
- ready availability of finance
- low interest rates
- buoyant markets
- opportunities for product development
- export opportunities
- economies of scale through lower operating costs; and
- the opportunity of increased revenue, profits and shareholder value
What are benefits to organic growth?
- Encourages a business to closely examine their own resources, assets and finances to find ways to use them effectively
- Can be less expensive than non-organic growth as it can offer improved returns but also forces a company to build a strong base for further growth
- Higher productivity for staff than other methods (acquisitions and mergers can often bring uncertainty to employee jobs, reducing productivity)
- Involves less risk than external growth
- Can be financed through internal funds (e.g. retained profits)
- Buildings a on business’ existing strengths (e.g. brands, customers)
- Allows the business to grow at a more sensible and predictable rate in the long run
What are the disadvantages to organic growth?
- It makes heavy demands on management, as creativity and innovation will be essential to achieve a high level of growth
- A business will usually need more time to grow as it requires employees who can handle the growth process along with other actions that are needed to move the business forward (this can mean an enormous committment of time and resources and personnel may need to be found, recruited and trained, premises and equipment acquired, sales conduits established with extensive marketing to get products known in their new field)
- Relatedly, the extra time taken to grow may mean that the business has insufficient income to disperse its fixed overheads meaning growth of organisation (staff, IT, facilities) should be matched to growth in premium, where possible
- Organic growth takes longer to achieve than a purchase of an existing book of business, which may not meet investors’ expectations
What are some key examples of organic growth drivers?
- It provides a sound means to measure progress and success. This is because the growth figures are not distorted by a merger or acquisition = you are only measuring as against your own success, not the success of others brought into the fold
- Organic growth is seen as a more profitable route with a better investment return
- It enables executive management to demonstrate long-term commitment to a business by building it through effective use of internal resources
- With the organic growth approach, management can fully focus on growing the business and the achievement of goals, and not be deflected from these because of merger or acquisition structural changes and integration
Give an example of a business who grew through organic growth methods
RSA - in 2001, they formed a bespoke subsidiary, MORE TH>N, to specialise in high-quality personal insurances, thereby taking a significant share of this market. Building upon a well-established brand, they now offer a wide range of life and general business, including commercial insurances.
What difficulties do the insurance industry face in relation to organic growth methods?
Due to the lag between putting business on the books and the emergence of the true pattern of claims (which shows whether the business being written is actually profitable or not), business growth must be handled by insurance managers with a good understanding of long-term profitability.
This makes insurance unusual from a management perspective - it is long-term business yet many managers are under pressure to manage their business on essentially a short-term basis to give rapid returns to investors.
What is the difference between an acquisition and a merger?
A merger only happens if two companies agree to join forces on a strategic basis, whilst an acquisition is where a company gains control of another company by purchasing a majority stakeholding.
What is a merger?
A merger is when two companies agree to join forces on a strategic basis
What is an acquisition?
An acquisition is where a company gains control of another company by purchasing a majority stakeholding
What is horizontal integration?
With regards to M&As, horizontal integration is where two companies are in the same market and the integration is aimed at
- improving a mediocre performance to a better market position
- achieving economies of scale
- improving competitiveness
- possible opportunities for diversification
What is vertical integration?
With regard to M&As, vertical integration is where a company is attempting to control a stage either closer to the source of the manufacturer or closer to the source of the customer. The aims can be to
- reduce costs, through economies of scale
- gain more control over the market, including sources of supply
- add greater value to the whole customer proposition, such as when an insurer acquires a back-office service company
What is meant by the phrase “economy of scale”?
A proportionate saving in costs gained by an increased level of production.
In essence, the larger a business is, the larger the scale of costs which can be saved. Such savings can come from buying supplies in bulk, specialisation of labour, more integrated technology and investment, function costs (such as IT) are spread across the business etc.
What are the advantages for an insurance M&A, aside from growth?
- As duplication is removed, efficiency and improved performance can be gained through synergy of processes or economies of scale by lowering unit costs
- Overcoming the cost of IT by being large enough, through the sharing of resources, which are becoming ever more expensive if the latest IT platforms are to be used
- Provides investment opportunities if an insurance company has spare capital
- Two companies joining together to spread risk. For example, if one is based in the USA and one is based in Europe, and the two books of business are uncorrelated, this will give the new company greater diversification and therefore they are likely to hafve a lower solvency capital requirement than if they remained as separate companies
- Increases shareholder value
What are some of the disadvantages to M&A?
- Reduced customer choice through the reduction in the number of organisations offering products to customers. This means there can be a reduction in competition
- Impact on staff affected and cost of redundancies.
- Clash of corporate cultures.
- “Eye off the ball” while change is taking place.
- Reduced customer service while changes are being implemented.
- Expected M&A savings not actually being realised
What are the advantages to outsourcing?
The expected advantages are:
* Only paying for what volume or level of service is required.
* Agreed service level benchmarks, with regular performance reporting.
* Access to specialist skills.
* Access to new partnership opportunities and new business processes
* Increased capability to develop new products
* More time to focus on core business areas
What are the disadvantages to outsourcing?
- Any form of contract that allows the business to outsource processes will mean that a certain control and direction will be lost.
- In the event of poor service, the business will lose customers and the firm’s reputation will suffer. Customers will either not be interested or aware that the diminished services are caused by a poor supplier of services.
- Extreme care should be taken with customers’ confidential information and data should be protected equally well at outsourced suppliers as it is within the firm. Care needs to be exercised when engaging an outsourced service provider located overseas, as data protection law restricts the transfer of personal data overseas in certain circumstances.
- If the business is too dependent on a limited number of suppliers then it will be open to higher costs where competition may be lacking.
- If the outsourced company gets into financial problems the business will be faced with problems of finding an alternative provider, possibly at short notice.
- Full understanding of customer behaviour and satisfaction can be lost if communication between the business and outsourced company is inadequate. This is an increasing concern when firms desire to be close to their customers and create a loyal customer base.
What is meant by a market disruptor?
Disruptors can be existing organisations who deliver substantial innovation in the products and experiences they offer.
What are some examples of areas which would/have benefit from digital technology in the insurance space?
- On electronic placement, such as the London Market PFL platform
- Claims payment and services
- Control of distribution channels
- Provision of bespoke solutions
- Mass marketing and business communications; and
- Management information
What are some examples of digital techology in the insurance space?
Fintech, Big Data and AI
What is FinTech?
Fintech refers to activities of businesses that have been created to offer new software solutions for financial services. Generally the areas in which Fintech can be applied include:
- money transfer
- loans
- movile payments
- risk assessment
- asset management
The development of Fintech in the insurance sector includes Big Data and data analytics
What is BigData?
BigData refers to the substantial amount of information stored by companies regarding their customers and potential customers.
What are the three main forms of cyber threat?
Malware, Ransomware and Hacking
What is Malware?
A form of malicious software that can install itself in your systems via phishing scams and by exploiting software vulnerabilities. Once installed, the attacker can spy on online activities and steal private data.
What is Ransomware?
A form of malware that attacks your computer system and encrypts data. The attacker will then demand a ransom payment in exchange for the return of the data. It’s worthwhile to formulate a data recovery plan as a precaution and maintain at least one backup of your data.
What is Hacking?
A term used for the partial or complete acquisition of a computer system or certain functions within it. There are various methods of doing so, but the aim is generally to access important data.
What are the key features of a cyber insurance policy?
Cyber Business Interruption Loss
Privacy Breach Costs Protection
Privacy Liability Protection
Cyber Extortion
Digital Asset Replacement / “Hacker Damage”
Cyber Forensic Support
What is cyber business interruption loss?
A key feature of a typical cyber insurance policy. If an IT failure or cyber-attack interrupts business operations, insurers will cover the loss of income during the period of interruption, including if this is caused by increased costs of conducting business in the aftermath of the attack.
What is privacy breach costs protection?
A key feature of a typical cyber insurance policy. Covers the business for costs arising from dealing with a security breach. For example, notifying customers of a cyber breach, the costs of hiring a call centre to answer customer enquiries, the costs of public relations
advice, IT forensic costs, any resulting legal fees or the costs of responding to regulatory bodies.
What is privacy liability protection?
A key feature of a typical cyber insurance policy. Covers the business against claims of infringement of privacy and associated legal costs in the event of a breach.
What is cyber extortion?
A key feature of a typical cyber insurance policy. Protects the business from ransomware and other malicious attempts to seize control of, and withhold access to, operational or personal data until a fee is paid. Typically, this will provide reimbursement of the ransom amount demanded by the attacker as well as any consultant’s fees to oversee the negotiation and transfer of funds to solve the ransom request.
What is digital asset replacement expenses or “Hacker Damages”
A key feature of a typical cyber insurance policy. Protects the business from damage inflicted by a hacker on digital assets.
What is cyber forensic support?
A key feature of a typical cyber insurance policy. Provides 24/7 support from cyber specialists recommended by your insurer in the period following a hack or data breach.
What is Product Launchpad?
Lloyd’s Product Launchpad encourages and supports product innovation for non-standard risks that might not fit the traditional market such as risks relating to intangible assets, new technologies and others.
What does limited liability mean in relation to a proprietary company?
It means that the shareholder liability is limited to the nominal value of their shares
What types of busines will mutual companies usually transact?
Mutual companies may transact life or general business, although the majority operate in the long-term (life) sector
Outline the key outcomes that the FCA expects from the treatment of customers by insurers
- Consumers can be confident that they are dealing with firms where the fair treatment of customers is central to the corporate culture.
- Products and services marketed and sold in the retail market are designed to meet the needs of identified consumer groups and are targeted accordingly.
- Consumers are provided with clear information and are kept appropriately informed before, during, and after the point of sale.
- Where consumers receive advice, the advice is suitable and takes account of their circumstances.
- Consumers are provided with products that perform as firms have led them to expect, and the associated service is of an acceptable standard and as they have been led to expect.
- Consumers do not face unreasonable post-sale barriers imposed by firms to change product, switch provider, submit a claim or make a complaint.
Describe the differences between organic and non-organic growth
Organic growth is where the company develops and expands its sales and revenue through its existing book. Non-organic growth comes about through mergers and acquisitions.
Provide a definition of ‘business ethics’
Business ethics can be described as the standards and conduct that the firm sets itself in its dealings within the organisation and outside the business within the business and social environment.
