Chapter36-Capital management

Question 1

Framework

Answer 1

1 Capital management

Need for capital: 
2 - Individuals
3 - Trading companies
4 - Benefit providers (REG CUSHION)
5 - State

Sources of capital:
6 - Mutual
7 - Proprietary
8 - Benefit scheme

9 Capital management tools

Capital management tools acting as a source of capital:
10 - Reinsurance; proportional and financial reinsurance
11  - Securitisation
12 -  Unsecured debt
13 - Banking products
14 - Derivatives
15 - Equity
16 - Internal sources of capital

Question 2

Need for capital - Individuals

Answer 2

 To provide a cushion against future unexpected events, eg car repairs

 To overcome timing differences between income and outgo, eg between salary income and expenditure

 To save for large future expenses, eg a holiday or buying a house

Question 3

Need for capital - Trading companies

Answer 3

 To provide a cushion against fluctuating trading volumes

 To build up funds for a planned expansion

 To fund the cashflow strain arising from the need to pay suppliers, fund work in progress and finance stock before the finished good is sold

 To provide start-up capital, eg to obtain premises and equipment and hire staff

Question 4

Need for capital - Benefit providers

Answer 4

Regulatory requirement to demonstrate solvency

Expenses of launching a new product / starting a new operation

Guarantees can be offered (higher solvency capital required)

Cashflow timing management (mismatch benefits vs premiums / contributions)

Unexpected events cushion eg adverse experience, fines

Smooth profit

Helps demonstrate financial strength / attract new business / obtain a good credit rating

Investment freedom to mismatch in pursuit of higher returns

Opportunities, eg mergers and acquisitions, new ventures

New business strain financing

(The acronym is REGulatory CUSHION.)

Question 5

Capital management tools

Answer 5

1. Reinsurance
2. Financial reinsurance
3. Securitisation
4. Subordinated debt
5. Banking products
6. Derivatives
7. Equity
8. Internal sources of capital