Spotlight on Financial Disclosure

In the June 2006 edition of Canadian Underwriter, we wrote about steps proactive insurance brokers should take to monitor information on the financial health of insurers to protect policyholders against insolvency risks. This month, we broaden that theme by discussing fundamental ways to improve insurer information disclosure in Canada. Such disclosure would benefit a wide range of stakeholders, including insurance consumers and brokers, insurance regulators charged with maintaining the financial soundness of the insurance companies they supervise, and guarantee funds like PACICC, which are responsible for the costs of winding up failed insurance companies.

MAKING INFORMATION PUBLIC

PACICC’s board of directors approved a position paper that calls on provincial and territorial insurance supervisors to make public key financial information on the P & C insurance companies for which they are the primary solvency regulator. PACICC advocates that company financial information for provincially-supervised insurers should be disclosed at least to the standard for federally-supervised insurers in Canada set by the Office of the Superintendent of Financial Institutions (OSFI). Moreover, disclosure practices should be consistent with the best practices endorsed by the International Association of Insurance Supervisors (IAIS). They should reflect enhanced disclosure rules recommended by other financial standard-setting bodies like the International Accounting Standards Board and the Basel Committee. PACICC recently shared its position paper on data availability with provincial and territorial ministers responsible for insurance, as well as insurance superintendents.

DISCLOSURE STANDARDS

How do the various insurance supervisory authorities in Canada perform in this area? To answer this question, let’s start with what the IAIS recommends in its Insurance Core Principles (ICP #26) as best practice for information disclosure and transparency towards the market. According to the IAIS principles, “the supervisory authority requires insurers to disclose relevant information on a timely basis in order to give stakeholders a clear view of their business activities and financial position and to facilitate the understanding of the risks to which they are exposed.” This principle applies, according to the IAIS, “regardless of whether [an insurer is] publicly traded or not.”

In Figure 1 (Page 60), PACICC has constructed a simple “index of data availability” that assigns equal weights to each of three elements: the timeliness, relevance and depth of insurance company financial data disclosed. The chart covers all Canadian regulatory authorities with domestic insurance companies, and that have responsibility for the solvency supervision of P & C insurance companies.

How are full marks for the three elements of the index determined? For timeliness, data should be released at least annually and within three months of the end of the reporting period. For relevance, the data disclosed should be similar in scope to the pages of the P&C-1 that OSFI releases on its Web site. For depth, sufficient data need to be released to allow users to analyze and understand changes in insurer financial health (for example, why an insurer’s minimum capital test score either strengthened or weakened).

MEETING THE TEST

PACICC believes financial data currently disclosed by OSFI for all 188 federally-supervised P & C insurance and reinsurance companies meets IAIS criteria stated in ICP #26. These data are released on OSFI’s Web site, updated each quarter, and issued within three months of the end of the period.

By comparison, we believe most provinces fall short of the standard recommended by the IAIS. Nova Scotia, for example, is an exception because they require all licensed insurers to meet OSFI’s solvency standards. The information disclosure shortfall at the provincial level currently applies to approximately 60 property and casualty insurance companies, many of whom are PACICC members. While this figure represents about one-third of the active companies in the Canadian market, it is less than one-third measured by total premiums.

Deficiencies in insurance company information disclosure at the provincial level are generally not the result of individual decisions by the superintendents on whether or not to release data. In most cases, the problem is that insurance legislation does not explicitly recognize information disclosure and transparency as a practice to help promote healthy insurance markets. Several provincially-supervised insurance companies do seek to release information about their operations through the statistical reports issued by Canadian Underwriter, Canadian Insurance, SCOR and MSA.

To be clear about the disclosure of financial data that would eliminate the shortfall, here is a list of the basic financial information that OSFI releases, free-of-charge, on its Web site for all federally supervised property and casualty insurers and reinsurers:

* Assets (P&C-1 page 20.10)

* Liabilities and equity (P&C-1 page 20.20)

* Statement of income (P&C-1 page 20.30)

* Minimum capital test (P&C-1 page 30.70)

* Premiums and claims (P&C-1 page 60.20)

PACICC views these data as the minimum standard (consistent with OSFI’s practices) that provincial supervisors should be publicly disclosing on a timely basis for property and casualty insurance companies in jurisdictions where solvency regulation is done primarily at the provincial level. Additional financial data that would be helpful to PACICC and other stakeholders if disclosed include claims reserves, the provincial/territorial breakdown of premiums written and earned, and a statement of retained earnings. OSFI discloses these and other data, for a fee, to insurance database companies like MSA and A.M. Best.

BENEFITS OF DISCLOSURE

What are the main benefits of making key financial information for insurance companies publicly available on a timely basis? Let’s consider the benefits for three important stakeholder groups.

* Insurance consumers and brokers – The IAIS maintains that public disclosure of financial data contributes to smoother functioning insurance markets, because such markets will be “less likely to overreact to negative information about an insurer.” Data availability allows insurance brokers better to assess the financial strength of insurers when they advise consumers about coverage. It also allows prospective policyholders to do their own assessment of insurer financial health, if they choose. Broader disclosure of relevant insurance company data also facilitates the provision of resources to address financial problems when they occur – including, in the worst case, insolvency.

* Regulators – Greater public availability and transparency of financial data increases the likelihood that insurance companies will be conditioned by market discipline to address potential problems at an earlier stage – rather than waiting (sometimes too late) to be ordered to do so by the superintendent. The IAIS notes that “this aspect of market discipline serves as an adjunct to supervision.” Insurance regulators, with limited resources available and generally facing increased financial market complexity, cannot afford to be without the useful supervisory adjunct of market discipline.

* Guarantee funds – Having relevant financial information available on a timely basis for all of its member companies allows a guarantee fund to conduct its own analysis of market risks, and to do more effective operational planning to prepare for insolvencies. PACICC, for example, can levy an earlier and more accurate general assessment on the industry to raise the funds needed to pay policyholder claims. In PACICC’s experience, the absence of timely, accu rate financial data has contributed to unnecessary delays in raising funds via the general assessment mechanism – delays that have run up to as long as a year-and-a-half. The net costs of insolvency are higher when insurance companies fail to make financial data publicly available. In fact, in the 12 property and casualty insurance company liquidations PACICC has overseen, recoveries of assessed amounts were nearly 18% lower on average for companies that did not publicly disclose financial data compared to companies that did so. Ultimately, policyholders pay higher costs.

There are many sound reasons for making timely financial data on insurance companies more accessible to stakeholders.

The most important and compelling reason to do so is even simpler: research shows that public disclosure and transparency of insurance company financial data can reduce the risk of insolvency. And that is a goal that all stakeholders can surely support.