DETERMINANTS OF PERFORMANCE: A CASE OF LIFE INSURANCE

SECTOR OF PAKISTAN
Naveed Ahmed
Hailey College of Commerce, University of the Punjab, Lahore

ABSTRACT
Organizational performance has attracted scholarly attention in corporate finance literature over
the several decades. However, in the context of insurance sector, it has received a little attention.
Current study examines the impact of firm level characteristics (size, leverage, tangibility, risk,
growth, liquidity and age) on performance of listed life insurance companies of Pakistan over
seven years from 2001 to 2007. The results of Ordinary Least Square (OLS) regression analysis
indicate that size, risk and leverage are important determinants of performance of life insurance
companies of Pakistan while ROA has statistically insignificant relationship with growth,
profitability, age and liquidity.
Keywords : Performance, firm level characteristics, life insurance companies.

INTRODUCTION
The performance of any firm not only plays the role to increase the market value of that
specific firm but also leads towards the growth of the whole industry which ultimately leads
towards the overall prosperity of the economy. Measuring the performance of insurers has gained
the importance in the corporate finance literature because as intermediaries , these companies are
not only providing the mechanism of risk transfer but also helps to channelizing the funds in an
appropriate way to support the business activities in the economy . Insurance companies have
importance both for businesses and individuals as they indemnify the losses and put them in the
same positions as they were before the occurrence of the loss. In addition, insurers provide
economic and social benefits in the society i.e. prevention of losses, reduction in anxiousness,
fear and increasing employment. Therefore, the current business world without insurance
companies is unsustainable because risky businesses have not a capacity to retain all types of risk
in current extremely uncertain environment.
For the past six decades, Pakistani life insurance companies have shown the impressive
progress which not only creates the employment opportunities but also enhances the business
activities in the economy. Financial statistics reported the phenomenal growth of Pakistani life
insurance companies as these companies comprise 52% and 69% share of entire (life plus nonlife) insurance market in terms of net premiums and assets (Insurance Year Book, 2007). In
addition, the premium of these life insurers increased by 36% in 2007 (Insurance Year Book,
2007) shows the remarkable progress of life insurance sector of Pakistan. Therefore, what
determines the performance of the life insurance industry is an important discussion for the
regulators and policy makers to support the sector in achieving the excellence so that desirable
economic fruits could be reaped from the help of the life insurance sector of Pakistan.

LITERATURE REVIEW
The Determinants of performance have been extensively studied in corporate finance
literature from the last several decades. For instance; by selecting the sample of US banks,
Berger (1995) investigated the impact of capital asset ratio on return on equity. He concluded
that capital asset ratio has a positive relationship with profitability. Anghazo (1997) examined
the impact of firm level characteristics on US bank net interest margin. The results documented

that bank interest margin positively related with leverage, opportunity cost, default risk and
management efficiency. Neeley and Wheelock (1997) explored the determinants of profitability
of commercial banks and find that profitability positively related with changes in per capita
income.

To investigate the performance of banks, Ben Naceur and Goaied (2001) used the sample
of Tunisian banks over the period of 1980 to 1995. They advocated that the banks who tried to
maintain their high deposits and improve their capital and labour productivity are performed
well. Guru et al. (2002) examined the determinants of performance of Malaysian banks over the
10 years period from 1986 to 1995. For this purpose, they selected both micro and macro level
characteristics. The results revealed that inflation positively while efficient expense management
and high interest rate negatively related with profitability. The results of Goddard et al. (2004)
showed that Profit is an important prerequisite for future growth of banks and the banks that
maintain a high capital assets ratio tend to grow slowly.

A study conducted by the Sufian, F. et al (2009) to investigate the determinants of

profitability by selecting the non-commercial banks financial institutions. The findings indicated
that credit risk and loan intensity negatively related with profitability while large size and
financial institutions with high operational expenses tended to high profitability ratio. Hakim and
Neaime (2005) observed that liquidity, current capital and investment are the important
determinants of banks profitability. Aburime, U. (2006) identified the firm level determinants of
profitability of Nigerian banks over the five years period from 2000 to 2004. He concluded that
credit portfolio, size, capital size and ownership concentration are important determinants of
Nigerian banks. Kosmidou (2008) showed that money supply growth has insignificant impact on
profitability while GDP and stock market capitalization to assets are significant and have
negative relation with the ROA. Samitas and Papadogonas (2009) illustrated that firms
profitability is positively affected by size, sales growth and investment. On the other hand,
leverage and current assets negatively related with profitability.

Severeral studies also have been conducted to measure the performance of the insurance
compnies. For instance; Sloan, A and Conover, J.(1998) deduced that functional status of

insurers do not affect the profitability of being insured but public coverage have significant
impact on profitability of insurance companies. Chen and Wong ( 2004) examined that size,
investment, liquidity are the important determinants of financial health of insurance companies.
Chen et al.( 2009) examined the determinants of profitability and the results showed that
profitability of insurance companies decreased with the increase in equity ratio. In addition,
insurance companies must have to diversify their investment and use effective hedging
techniques which help them to create better financial revenues.

RESEARCH METHODOLOGY
Sample and Data

Currently, there are five life insurance companies operating in Pakistan and all these five
companies are selected to measuring their performance over the period of seven years from 2001
to 2007. For this purpose, financial data has been collected from financial statements (Balance
Sheets and Profit and Loss a/c) of insurance companies and Insurance Year Book which is
published by Insurance Association of Pakistan.
Model
PR = 0 + 1 (LG) + 2 (TA) + 3 (SZ) + 4 (LQ) + 5 (AG)
+ 6 (RK) + 7 (GR) + e
Where:
?

PR = Performance

LG = Leverage

(Total debts divided by total assets)

TA = Tangibility

(Fixed assets divided by total assets)

SZ = Size

(Log of premiums)

LQ = Liquidity

(Current assets divided by current liabilities)

AG = Age

(Difference b/w observation year and establishment year)

RK = Risk

GR = Growth

e = the error term

(Net income before interest and tax divided by total assets)

(standard deviation of ratio of total claims to total premiums)

(Percentage change in premiums)

STATISTICAL RESULTS
DESCRIPTIVE STATISTICS
Table 4.1 presents descriptive analysis of the firm level characteristic associated with life
insurance sector. This study considers performance as dependent variable whereas leverage, size,
growth, tangibility, liquidity, age and risk as independent variables. The industry average is
provided by mean along with are the minima and maxima for respective year while standard
deviation indicates the inter- industry variation of the variables value within the respective year.
Table 4.1 indicates that the minimum value of industry mean of leverage is 0.79 in 2004 and
2007 while the mean value is at its maximum level in 2006 at 0.84.The maximum variation in
leverage is observed in 2007 valuing at 0.30 and minimum is found in 2003 at 0.19.

The variable size constantly shows the increasing trend from year 2001 to 2007. The
mean value of size is at maximum level in 2007 i.e. 7.51 whereas minimum mean value for size
is observed at 6.02 in 2001. In addition, the inter industry variation is minimum in 2001 at 2.12.
Table 4.1 also shows that growth of Pakistani life insurance companies is not consistent in all
seven years and mean value of growth is reached 34.84 in 2007 from 11.53 which is observed in
2001. The mean value of performance (dependent variable) is maximum in 2007 valuing at 0.07
and the minimum value is observed in 2001, 2002, 2003 and 2005 at 0.02. The standard
deviation is also not very high i.e. around 0.02 as compare to other variables except in the year
2007 in which it touches it maximum of 0.07.

Table 4.2 also provides descriptive results of tangibility, liquidity, age and risk for the
period of seven years from 2001 to 2007 for the life insurance sector of Pakistan. The mean
values and standard deviations of tangibility is around 0.03 and 0.02 respectively in all seven
years from 2001 to 2007.The mean values of liquidity are indicating an increasing trend from the
minimum of 1.70 in 2001 to the maximum value at 6.36 in 2007. The standard deviation is also
establishing an increasing trend from a minimum value of 0.76 in 2001 to a maximum value of
8.63 in 2007.The mean value of risk is at its lowest level in 2003 at 0.58 with a minimum
standard deviation of 0.45 while these values have reached their maximum level in 2007 i.e. 6.35
and 6.51 respectively.

TABLE 4.1: Descriptive Statistics

TABLE 4.1 (Continued): Descriptive Statistics

Leverage

Size

Growth

Performance

Years
Mean

SD

Min

Max

Mean

SD

Min

Max

Mean

SD

Min

Max

Mean

SD

Min

Max

2001

0.80

0.21

0.45

0.99

6.02

2.12

3.06

8.93

11.53

11.90

3.22

32.39

0.02

0.01

0.00

0.03

2002

0.81

0.20

0.47

0.99

6.21

2.11

3.29

9.07

22.21

23.52

3.68

60.99

0.02

0.01

0.00

0.03

2003

0.82

0.19

0.51

0.99

6.50

2.08

3.57

9.20

37.18

32.62

8.30

90.71

0.02

0.01

0.00

0.03

2004

0.79

0.24

0.38

0.99

6.68

2.09

3.56

9.31

22.20

27.93

-1.78

61.16

0.03

0.02

0.00

0.05

2005

0.83

0.21

0.47

0.99

6.95

2.03

3.96

9.53

31.18

10.30

24.97

48.98

0.02

0.02

0.00

0.05

2006

0.84

0.20

0.49

0.99

7.21

2.02

4.24

9.68

31.79

26.14

3.74

72.78

0.03

0.02

0.00

0.06

2007

0.79

0.30

0.26

1.00

7.51

2.06

4.50

10.03

34.82

9.25

22.44

45.66

0.07

0.07

0.00

0.17

Years

Tangibility

Liquidity

Mean

SD

Min

Max

Mean

SD

Min

0.03

0.02

0.00

0.06

1.70

0.76

1.07

0.03

0.02

0.00

0.06

1.73

0.86

0.03

0.02

0.00

0.05

2.18

0.02

0.02

0.00

0.04

0.02

0.02

0.00

0.02

0.01

0.02

0.02

Age
Max

Mean

SD

2.65

16.60

20.40

1.14

3.01

17.60

1.11

1.22

3.72

2.24

1.77

1.09

0.04

3.02

2.26

0.00

0.03

3.98

0.00

0.05

6.36

Risk

Min

Max

Mean

SD

Min

Max

6.00

53.00

1.92

1.33

0.70

3.94

20.40

7.00

54.00

0.83

0.47

0.40

1.34

18.60

20.40

8.00

55.00

0.58

0.45

0.18

1.34

4.85

19.60

20.40

9.00

56.00

3.34

3.08

0.00

7.23

1.15

5.94

20.60

20.40

10.00

57.00

4.70

2.15

1.23

6.36

2.72

1.36

7.37

21.60

20.40

11.00

58.00

3.60

3.86

0.51

9.72

8.63

1.33

16.33

22.60

20.40

12.00

59.00

6.35

6.51

1.78

16.00

2001
2002
2003
2004
2005
2006
2007

TABLE: 4.2 REGRESSION COEFFICIENTS & THEIR SIGNIFICANCE

LEVEL

Model

Unstandardized

Standardized

Coefficients

Coefficients

Sig.

.204

.841

Std. Error

Beta

(Constant)

.010

.051

Leverage

-.265

.090

-1.579

-2.940

.008*

Size

.038

.009

1.722

4.120

.001*

Growth

-4.69

.000

-.032

-.245

.809

Tangibility

.507

.367

.183

1.382

.183

Liquidity

.001

.003

.058

.205

.840

Age

-.003

.003

-.235

-1.169

.257

Risk

.004

.002

.374

1.903

.072**

R Square 0.816
Adjusted R Square 0.749
F statistics 12.062
* Significant at 1% level
**Significant at 10% level
____________________________________

REGRESSION ANALYSIS
Tables 4.2 reports the results of regression analysis in which seven independent variables
are regressed by using the data of life insurance sector of Pakistan from 2001 to 2007. The value
of R square (0.816) indicates that performance of life insurance companies is nearly 82%
dependent on independent variables i.e. size, leverage, growth, tangibility, age, risk and liquidity.
Therefore, performance is mainly defined by these seven variables of life insurers in Pakistan
over seven years.
Table 4.2 indicates that leverage is negatively and significantly related with the
performance of the life insurance companies. This predicts that the performance of highly
levered Pakistani life insurance companies is not up to the mark. Table 4.2 also shows that
coefficient of variable size is positive and statistically significant at 1% level. This predicts that

performance of large size life insurance companies is better than small size companies. The
negative coefficient of growth indicates a negative relationship between growth and
performance. However, this negative relationship is found to be statistically insignificant with
the p-value of 0.809. Therefore, growth is not considered as a proper explanatory variable of
performance in life insurance sector.
The beta values of explanatory variables tangibility and liquidity are 0.507 and 0.001
respectively with the positive coefficient sign. However, tangibility and liquidity are not
statistically significant with the large p-values. Therefore, tangibility and liquidity are not
considered a powerful explanatory variable to define the performance of life insurance
companies in Pakistan over seven years. Negative coefficient of variable age specifies the
negative relationship between performance and age of the Pakistani life insurance companies.
However, the relationship between performance and age is statistically insignificant. Table 4.2
indicates that the coefficient of variable risk is positive and statistically significant at 10% level.
According to the nature of insurance industry, ratio of total claims to total premiums (loss ratio)
is used as a proxy to measure the risk of the life insurance companies in Pakistan. Positive sign
shows a positive relationship between performance and risk of the insurance companies i.e.
performance increases with the increase of loss ratio.

CONCLUSION
The current study investigates the impact of firm level characteristics on performance of
the life insurance sector of Pakistan over the period of seven years from 2001 to 2007. For this
purpose, size, profitability, age, risk, growth and tangibility are selected as explanatory variables
while ROA is taken as dependent variable. The results of OLS regression analysis reveal that
leverage, size and risk are most important determinant of performance of life insurance sector
whereas ROA has statistically insignificant relationship with profitability, growth, tangibility and
liquidity.

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