FDI IN INSURANCE I

ncrease in FDI limit in insurance sector to 49% from 26% will likely provide exit opportunities for promoters. Given the modest growth in business for life insurance sector and weak profitability of non-life, and that insurers have significantly high solvency margins, contribution of incremental FDI to expansion will be limited. If all promoters decide to sell 23% stake to foreign players the potential inflows can be around USD 3.5bn. But a realistic estimate could be much lower at USD 0.4-0.8bn.

Policy decision and claimed benefits: Governments decision to allow 49% FDI in insurance from the current 26% is expected to facilitate infusion of fresh capital into the sector, boost expansion and support fund availability to the infrastructure sector. Government claims that sector requires USD5-6bn for its immediate growth requirement. While the policy will need to be cleared by the Parliament (which is going to be difficult) we analyze the proposal in the context of prevailing industry conditions.

FDI can provide exit opportunity to promoters: In our view, expansion of FDI limit may not translate into large inflows immediately as the sector is going through a normalization phase. While higher FDI participation may not contribute substantially to the medium term growth, it can potentially provide exit opportunity for existing promoters and stimulate listing of companies. Our estimate indicates that if all promoters decide to sell additional 23% stake to foreign players the potential inflows can be around USD 3.5bn. However, in a more realistic scenario of only few promoters deciding to exit the inflows could be much lower at USD 0.4-0.8bn. Overall, while capitalization requirement for non-life sector can be higher than life, which in our view do not require much capital for expansion, the performance parameters of nonlife sector and lower participation of private sector in non-life (contributing only 19% of net worth in total private sector networth in life and non-life) will pose challenge to the anticipated FDI inflow.

Life insurance- High solvency margin at 3.9x provides significant headroom: Given high actual solvency margin, averaging at 3.9x for private life insurers vs required 1.5x, there is sufficient scope for business expansion even with out additional capital. The key issue for life insurers is the slow growth in business, reflected in just 3.5% CAGR during FY07-12 in individual Annualized Premium Equivalent (APE) and around 9.5% for overall APE inclusive of group premium. Redemptions in unit linked plan (ULIPS) and modest growth in overall business have resulted in several companies closing branches and release of capital charge, implying rise in ASM to 3.9x in Jun-12 vs 3.0x in Mar-10.

Normalization in life insurance, regulatory changes to stimulate growth: The long term prospects of sustained growth for life insurance business has been impacted by weak premium flows over the past two years due to 1) tighter regulatory framework which has limited distribution incentive for unit linked plans of private sector in particular, and 2) Recent decline in financial savings of the households. Efforts/factors indicating improved future flows into life insurance products include 1) quicken approvals process for new products, 2) expanding scope for banks to market multi-company products, 3) additional tax incentives and 4) lowering of bank deposit rates. But the more important factors in our view are 1) adverse track record of returns on ULIP schemes, 2) decline in house hold financial savings (assets-liabilities) by -0.5% and -9.2% during FY11 & 12 respectively, 3) sharp decline in financial assets/personal disposable income of household from 23% in FY07 to 14.4% in FY12E, 4) deceleration in disposable income growth amid high inflation and 5) rebound in financial liability/financial asset ratio to 28.3% in FY12 from 20.6% in FY10 after the sharp decline from 37% in FY07.

Overall, it will require significant effort to improve flows into life insurance given the context of further deceleration in disposable income resulting from higher taxes, lower subsidy, persistent high inflation and weak employment arising from broader growth deceleration.

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LIFE INSURANCE NOTIFICATION

New Delhi, the 22
nd

December, 2000

File No. IRDA/REG/12/2000.--In exercise of the powers conferred by section 114A of the Insurance Act, 1938, read with sections 14 and 26 of the Insurance Regulatory and Development Authority Act, 1999, the Authority, in consultation with the Insurance Advisory Committee hereby makes the following regulations, namely: 1. Short title and commencement.(1)These regulations may be called the Insurance Regulatory and Development Authority (Life Insurance - Reinsurance) Regulations, 2000.

(2) They shall come into force on the date of their notification in the Official Gazette. 2. Definitions. ---In these regulations, unless the context otherwise requires:
(a) Act means the Insurance Act 1938 (4 of 1938); (b) Authority means the Insurance Regulatory and Development Authority established under sub-section (1) of Section 3 of the Insurance Regulatory and Development Authority Act 1999 (41 of 1999); (c) retention means the amount of risk which an insurer assumes for his own account. (d) Words and expressions used and not defined in these regulations but defined in the Insurance Act, 1938 (4 of 1938) or Insurance Regulatory and Development Authority Act, 1999 (41 of 1999), shall have the meanings respectively assigned to them in those Acts as the case may be.

3.

Procedure to be followed for reinsurance arrangements.---(1) Every life insurer shall draw up a programme of reinsurance in respect of lives covered by him. (2) The profile of such a programme, duly certified by the Appointed Actuary, which shall include the name(s) of the reinsurer(s) with whom the insurer proposes to place business, shall be filed with the Authority, at least forty five days before the commencement of each financial year, by the insurer. Provided that the Authority may, if it considers necessary, elicit from the insurer any additional information, from time to time, and the insurer shall furnish the same to the Authority forthwith. (3) The Authority shall scrutinise such a programme of reinsurance as referred to in sub-regulation (2), and may suggest changes, if it consider necessary, and the insurer shall incorporate such changes forthwith in his programme. (4) Every insurer shall retain the maximum premium earned in India commensurate with his financial strength and volume of business. (5) The reinsurer, chosen by the insurer, shall enjoy a credit rating of a minimum of BBB of Standard and Poor or equivalent rating of any international rating agency: Provided that placement of business by the insurer with any other reinsurer shall be with the prior approval of the Authority. Provided further that no programme of reinsurance shall be on original premium basis unless the Authority approves such programme. Provided further that no life insurer shall have reinsurance treaty arrangement with its promoter company or its associate/group company, except on terms which are commercially competitive in the market and with the prior approval of the Authority, which shall be final and binding. (6) Every insurer shall submit to the Authority statistics relating to its reinsurance transactions in such forms as it may specify, together with its annual accounts.

Inward Reinsurance Business.---(1) Every insurer who wants to write inward reinsurance business shall adopt a well-defined underwriting policy for underwriting inward reinsurance business. (2) An insurer shall ensure that decisions on acceptance of reinsurance business are made by persons with adequate knowledge and experience, preferably in consultation with the insurers appointed actuary. (3) An insurer shall file with the Authority, at least forty five days before the commencement of each financial year, a note on its underwriting policy indicating the classes of business, geographical scope, underwriting limits and profit objective. (4) An insurer shall also file any changes to the note referred to in sub-regulation (3) as and when a change in underwriting policy is made.

4.