David Worsfold
Most insurers and their investment teams might feel that a period of regulatory calm is in order after the implementation of Solvency II at the beginning of last year.
Unfortunately, regulators have different ideas.
European insurers are already limbering up for the battles with the European Insurance and Occupational Pensions Authority over its review of Solvency II. This is facing severe criticism for being too wide-ranging - http://www.insuranceinvestmentexchange.com/news/battle-lines-drawn-up-over-solvency-ii-review/
If the prospect of wholesale changes to Solvency II seems unwelcome then insurers should look at what is coming their way from the International Accounting Standards Board (IASB). It makes some of the demands imposed by Solvency II look modest.
The IASB has been working on a new standard on insurance contract reporting called IFRS 17 (once known as IFRS 4 Phase II) which potentially imposes huge new data collection and reporting requirements on insurance companies. IFRS 17 has a proposed implementation date of 2021 and is about achieving consistent reporting and accounting standards across the world – not just in Europe like Solvency II.
According to the IASB its main objective is to ensure “high quality, understandable, enforceable and globally accepted financial reporting standards based upon clearly articulated principles”. It wants to achieve this by improving transparency and comparability of insurers’ financial statements, regardless of sector, geography and products.
It is the area of comparability of the costs of selling and managing products that is likely to cause the most concern, not least among internal and external investment managers asked to produce vast amounts of legacy data about their costs.
This key challenge comes through IFRS 17’s focus on the contractual service margin (CSM) which wants the profit on long-term policies spread evenly across their lifetime. This concept doesn’t exist in Solvency II which allows insurers to recognise profits on an insurance policy immediately it is taken out. This reflects standard practice throughout the industry for generations.
The IASB argues this makes comparison between different insurers and different product lines difficult.
Calculating the CSM requires a huge amount of data, and much of it will be difficult to source. It needs historic data that in the case of some policies might be a quarter of a century old. Sourcing this data in firms that have merged several times since policies were issued could be challenging enough. Getting it into a format where it can be manipulated to produce the view of the business demanded by IFRS 17 is going to be even tougher.
This challenge is magnified by the desire to achieve greater transparency and, crucially, consistency across the globe.
Solvency II already requires the collection and input of large amounts of data, new internal models and a robust actuarial calculation engine. European insurers who have developed these at least have some of the key tools for coping with IFRS 17 already in place. One major challenge at the firm level lies in the vast scale of the data required for IFRS 17 and the consequent expansion in storage and processing power. That will necessitate major investment. It will also require extensive mining of historic data on costs and investments.
The extent to which IFRS 17 demands this almost impossible to source historic data is one of the main themes of the negotiations ahead of the anticipated publication of the final document later this year. Closely related to this is a further complaint that the IASB isn’t being helpful enough in terms of guidance on how all of this new data should be reported in its highly transparent regime.
Insurers hope the final iteration of IFRS 17 contains the sort of reporting templates they have quickly become familiar with under Solvency II. It argues that these are essential if it is to avoid too much information being pushed out at the end of the process, to the extent that it overwhelms the very analysts the regulator claims it wants to help.
Elsewhere in the new regulations there is better news for insurers and investment managers as they adopt a similar approach to the valuation and matching of assets and liabilities to that already embraced by Solvency II.
Finding cost-effective solutions to the challenges of IFRS 17 is going to be vital, especially for firms that are already struggling to manage a burgeoning compliance cost base. It could lead to decisions to withdraw from certain product lines altogether especially as they look over their shoulders at new competitors that don’t carry the heavy burden of complex legacy issues.