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A major fillip for growth

Intro: Insurance industry in India is poised for a major pick-up post the passage of the insurance billl that facilitates increased FDI in the sector. Industry leaders analyze the scenario:

The new insurance bill that is passed by the parliament and has become a law has far-reaching implications for the sector in the country. While its major focus has been raising the level of foreign direct investment in an insurance entiry to 49% from the prevailing 26%, the multinational insurance companies, which are participants in Indian joint ventures, are expected to bring better practices and innovative products. Besides, increased capital will equip the insurance players to foray into hitherto unexplored areas of the country, where insurance is just unknown. There are also provisions in the amended law that directly benefit the policy holders.

If we look at the current status of the industry in the country, the penetration is just about 4%, which is below the world average of 6.3%. Compare this with say South Africa which has15.4% or South Korea which has11.9% or the UK with 11.5%. In terms of numbers, more than 800 million Indians have no life insurance cover at all. The figures in respect of health and other insurance are pitiable. This low insurance density needs to be addressed and this can only be done by introducing more insurance companies and more investment in this sector. More players means more investment and more competition. More competition means lower prices for consumers and increased affordability. According to a recent report by McKinsey & Co done for the Confederation of Indian Industry (CII), the market size of the insurance sector currently stands at $60 billion and this is expected to quadruple over the next 10 years to $250 billion.

The industry in the country has three distinct segments – life insurance (operated by 24 entities), general insurance/non-life insurance (28 entities) and reinsurance (1 entity). The private players in the life insurance sector has a market segment of around 25% with public sector LIC dominating, while in the general insurance segment, they have 45%. The reinsurance segment is fully controlled by GIC Re, which is a government institution.

CAPITAL INFUSION

According to some sector analysts, the sector may see a capital infusion of around $2 billion in the near term and around $10 billion in the medium to long term. There is also potential to create more jobs as a result of expansion of the operations of the existing players.

Another fallout is the greater powers given to the sector regualtor IRDA, including those to determine agency commission structure and penal action for mis-selling. Some analysts feel it will function in manner that Sebi does now.

More importantly, there will be growth in the re-insurance sector as foreign participants may come in as JVs or as standalone entities.

AMONG TOP 10

“The Indian insurance industry today thrives in a good enabling environment,” says R. M. Vishakha, MD and CEO, IndiaFirst Life Insurance Co. “The availability of increased capital will further empower insurance companies to expand businesses and networks into hitherto uncovered areas. With the penetration levels being low at less than 4%, there is ample opportunity for every player. The industry is poised to be amongst the top 10 markets by 2025,” she adds.

However, she feels it may take some time for an uptake due to the current economic conditions resulting in a cautious outlook across the globe.

According to Shashwat Sharma, partner & head – Insurance, KPMG India, lists the key changes post the Insurance Laws (Amendment) Bill, 2015 as:

  • Increase in composite cap of foreign investment (all forms of foreign investments including foreign portfolio investments) to 49% from the current 26% is expected to bring in much needed capital for business expansion, especially for some of the smaller players
  • higher role of foreign insurers is also expected to encourage innovation by bringing in international best practices
  • Some of the leading global reinsurers are expected to setup branches in India. Over the long term, there is a possibility of India becoming a regional reinsurance hub
  • More regulatory authority has been given to IRDAI, which is expected to lead to more regulatory oversight on some of the issues impacting the industry such as misspelling of insurance plans etc.

“We can expect increase in the foreign participants’ stake in current joint ventures and also private equity firms or FIIs acquire stake in some of the insurance companies, says Vivek Jalan, director, Risk Consulting, Towers Watson. “Increase in FDI limits could also see the entry of foreign MNCs who were waiting for this development. Also, we would expect some companies to raise capital through IPOs. IRDAI has now got more teeth and would get even more pro-actively involved in shaping the outcomes in the sector. This is both from the perspective of making regulatory changes to be in line with the new insurance act as well as IRDAI’s increased ability to levy higher fines for non-compliance. This would also lead to improved governance standards within insurance companies as well as increase in investments in technology,” adds Jalan.

INDIAN CONTROL

The increased FDI alone would ensure more commitment of the foreign promoters of insurance companies, subject to clarity on ‘Indian control’, sayd C.L. Baradhwaj, senior vice president (Compliance) and CRO, Bharti AXA Life Insurance Co. “Recognition of tier II capital wouldhelp insurers better leverage their capital. Besides, more power to IRDAI would empower it to regulate the industry better,” says he.

For Sunil Sharma, chief actuary at Kotak Life Insurance India today is very well positioned with respect to demographic profile of the population and is one of the fastest growing insurance markets in the world and as such new players will enter the insurance market while existing foreign players will increase their stake in the insurance companies. He also says that public sector general insurance companies can raise capital to expand or to meet solvency requirements, policyholders interest will be protected through hefty fines on mis-selling and selling of insurance policies through multi-level marketing and a policy cannot be called for in question after three years from the issue of the policy and the claims from such policies may not be repudiated. “In addition, the new law provides for additional powers to IRDAI to effectively discharge its functions. It is empowered to regulate key aspects of insurance company operations in areas like solvency, investments, expenses and commissions and to formulate regulations for payment of commission and control of management expenses. This will ensure more autonomy to IRDA and will lead to faster changes in response to any market conditions, says he.

IMMEDIATE FUND FLOW

There are forecasts that with the new act in place the industry will immediately attract some Rs 25,000 crore in foreign funds. According to Vishakha, the industry today is at a point of stabilization with adequate opportunities and the right environment being offered to all the parties involved to ensure sustained growth and the increase in the FDI limits is one such positive enabler. “The quantum and timeframe for utilizing this opportunity will depend on each company – its life stage and strategy for growth,” says she.

Vivek Jalan thinks this is unlikely to happen immediately or in short term. He says the projections are based on extrapolations of existing capital at 26% to 49%, which is simplistic. “Currently, there remains a significant number of uncertainties in the sector (with pending regulations and various exposure drafts issued by the IRDAI). So, it is not clear what the ‘playing field’ would look like. For investors to feel sufficiently confident about injecting capital, such uncertainties would need to first settle down and more clarity to emerge on the direction of the regulations (as well as assurances that the rules of the games would not change in the foreseeable future). Once this stabilizes, we should see capital flows,” he maintains.

Sharma of Kotak Life Insurance has another take. Says he: “Some of the major private insurance players are likely to sell their stake to their foreign partners or new players. Further, it is highly likely that new insurers and reinsurers from across the globe will enter in Indian market to set up insurance business as the investment has now become material. Looking at this it may not be inappropriate to expect the foreign fund inflow of around Rs 25,000 crore. However, it all depends on the speed of execution of new entrants and the global economic environment.”

Baradhwaj of Bharti AXA Life Insurance believes that interests of new foreign insurers is subject to some clarity on regulatory perspective. “For example, 49% FDI is allowed subject the insurance entities are being Indian-owned and controlled. A foreign promoter who puts in/increase his stake to 49% and give control to Indian promoters would like to first understand the implications of this proposal (It is important to note that foreign insurance companies bring in the insurance expertise to Indian insurance companies). Secondly, the draft bancassurance regulations of IRDAI which proposes to mandate that every bank which is a corporate agent, must compulsorily work for at least 2 insurers, it would throw up a great opportunity to many new entrants to tap the insurance sector through a scalable model. These two clarities would enable foreign insurance companies to decide their course of action,” he feels.

Shashwat Sharma of KPMG, however, agrees that since most foreign insurance players having a presence in India are keen to increase their presence, they see the raising of FDI limit as a great opportunity. “We expect Rs 20,000 crore to Rs 25,000 crore to flow into the sector in the near term,” he affirms.

RURAL OPERATIONS

One of the expectations is for insurance companies to spread out to hitherto unexplored areas in rural India. What sort of investment would be required for this purpose? Will such a spread-out ensure better and more meaningful insurance products and services?

Jalan says financial inclusion is very high on the agenda of the finance ministry and all financial services regulators, including IRDAI. Enabling regulations and support structures created and continuously being improved has helped insurance companies service the hinterland. For example, look at the microinsurance regulations, enabling post offices, CSC centres, banking correspondents and payment banks to sell insurance products. “However, not many private sector insurance companies have considered targeting the market at the bottom of the pyramid as they have not been able to develop a financially viable model to distribute and service this customer base. The current trend – particularly among the private insurers – is to focus on the affluent customer base. The mass market and rural areas are virtually left untouched, except for the minimum obligations required. This is evidenced by the available product propositions that have minimum premiums higher than this sector can reasonably afford, incorporated in the product design. The product proposition is targeted at a different class and this is reflected in distribution trends (with increasing focus on banks as distribution engines, that tap the target customer base better than traditional agency),” he elaborates.

He maintains that for insurers to meaningfully penetrate mass market and rural India, the following must be in place:

  • proper fraud management framework to check insurance fraud – this is particularly true for lower case size where the risk for reward for potential fraudsters is high. This also needs to be supported by an effective legal framework, where frauds are appropriately penalized
  • effective infrastructure and systems to mobilise low ticket size premium collections: having physical collection points or relying on agency premium collections is expensive, particularly when insurance reach is expected to be greater. Cash-collection mechanisms need to be developed that can effectively tap the relevant target customer base – innovations such as mobile money etc. should help
  • continue to tap into existing infrastructure (rather than develop bottom up which would be expensive) of using for example the post office network, leveraging micro-finance institutions etc.

A BIZ PROPOSITION

Vishakha says insurance penetration into the rural society is not just a laudable social objective but has the potential to be a soundly viable business proposition. “There is no doubt that rural India is becoming a powerful engine of economic growth. Rural markets in India contribute to more than half of the sale of fast-moving consumer goods, clothes and durables, 100% of agri-product sales and nearly 40% of automobile sales. In the last few years, the biggest growth in the Indian mobile telephony market has come from the hinterland.”

She says rural customers would need products and processes to be customized to meet their requirements and lifestyle. “We have the IndiaFirst Shubhlabh Plan. This is a micro insurance product developed for customers being serviced through the government appointed Customer Service Center. The process has been re-engineered to allow for instant policy issuance without any documentation by integrating with the UIDAI.”

She says tapping the huge potential of an under-served market means more than just tweaking and transplanting urban products into rural areas. Having the right focus and awareness creation will ensure suitable products and processes which are viable for the rural consumers as well as insurance companies, she adds.

Sunil Sharma of Kotak Life Insurance feels it is essential that the insurance companies utilize the investments to increase the reach and provide valuable products to the rural population. The average premium per policy from rural markets is likely to be very low and therefore, there is a need to find innovative digital platform which could drastically reduce the distribution and servicing cost for this segment. He adds that creation of CSCs is a positive move forward in this direction to enhance the reach of insurers in the length and the breadth of the country. Some of these steps may help reduce the cost of distribution and will make the rural products more easily available and self-sustainable, he adds.

IMPORTANCE OF CSC

Shashwat Sharma of KPMG cautions that while increasing insurance penetration and reach is indeed one of the objectives driving insurance policy currently, direct investment in setting branch infrastructure in rural areas may not be the preferred option taken by most insurance companies. “IRDAI has been promoting sales in rural areas through CSCs which provide a cost efficient way for insurance companies to offer their products without setting up full scale branches. Introduction of open architecture in distribution is also expected to increase insurance penetration by incentivizing insurance companies to tap existing network of banks in rural areas,” he says.

According to Baradhwaj, currently, insurance companies spread out to rural areas through their business partners like insurance brokers. Opening offices in rural areas may require a minimum investment of anywhere between Rs 25 lakh to Rs 50 lakh. The bigger challenge would be the connectivity and policy servicing given the volumes. “With IRDAI releasing the latest micro insurance regulations whereunder policies upto Rs 2 lakh sum assured are allowed for life insurance companies, success lies in arriving at a sustainable business volume model while addressing the connectivity issues. It would definitely encourage more proudcts and services being available in rural areas. IRDAI may also consider providing incentives like concessions in fees, more allowance for expense ceilings for insurers opening branch offices in rural areas etc,” says he.

TRANSPARENCY

The act provides for more transparency, less chances of missell and faster claim settlements. How do they comment on this?

Vishakha says everyone realizes that a sustainable model is one where the golden triangle involving the customers, stakeholders and manufacturer is maintained. “The biggest challenge for the industry is walking the talk. Every company is talking about need-based analysis, but the crux of the matter is will insurance companies be able to actually transfer this ability on the field.”

She syas at IndiaFirst Life Insurance the staff tries to make people understand why they are buying a particular policy. “When one buys a financial product, he must be sure about the reason for buying it. Is it because he has extra money to invest in the short period, is it because of a liability that is going to come in the near future, etc?. Knowing the reason for saving and the period you want to stay invested in, helps you decide which product suits you the best. Our belief has always been to keep the customer first. Half the mis-selling happens because you start from a product. If everybody starts thinking from the customer, you will have zero mis-selling,” says she.

Shashwat Sharma says the new provisions in the act would certainly help in improving customer confidence and enable the industry to get the focus back on growth.

Sunil Sharma too is sure this will help the industry in selling the right insurance products that meet the needs of the customers, which in turn will help in enhancing the confidence of the customers in the insurance industry.

Jalan maintains that the proof of the pudding is in the eating. “It all depends on the implementation of the measures intended. As noted, there are many fallacies that have arisen from the insurance industry itself and the act aims to remedy these. From that perspective it is a positive outcome for all and a chance for the industry to right its wrongs.”

Baradhwaj makes a point. Says he: “The act does not provide transaprency in selling operations. By imposing stricter penalties and filing of police complaints for multilevel marketing and accountability of insurers for acts of its agents etc it provides a stick in the hands of regulators to discourage misselling. Again, it does not provide for faster claim settlements, it would only prohibit repudiation of claims by insurers after 3 years.”

ENHANCED POWERS

That brings to the question of more powers to the regulator and the impact of such a powerful regulator on insurance companies and policy holders. Jalan says from a company’s perspective, it would mean more stringent regulatory action and severe penalty in case of non-compliance. Having a more powerful regulator would help in weeding out malpractices, says he.

Moreover, from a customer perspective, the regulator has already demonstrated that it intends to bring in a customer friendly insurance environment. “Having said that, it is equally important for the regulator (in conjunction with the legal framework) to take stringent punitive actions against fraud so that the industry develops in a mutually beneficial manner. If customer friendly actions only promote greater (and easier) fraud, then all regulatory effort would be counterproductive in the long run,” says he.

According to Shashawat Sharma, the regulator is expected to have more flexibility in formulating guidelines for remuneration to distributors as well as enable more channels of distribution. There would also be more oversight on some of the issues plaguing the industry such as misselling, which is expected to lead to more transparency for the customers.

Says Vishakha: “The regulator has always kept the customers’ interests at heart while providing the industry an environment that is conducive for growth. With additional powers being given, the vision of the regulator would now start playing an even more meaningful role in developing the industry without delays. A visionary regulator like we have at present who can understand the requirement of customization based on customer segments will ensure companies are equipped to deliver what is needed and grow this market.”

She says it is not by chance that the IRDAI is one the few regulators in the world who have the word ‘Development’ in its name. And, when a regulator uses the powers bestowed in it to regulate and develop, we should have a winning combination, she adds.

Sunil Sharma too feels providing more authority to the regulator will help it to take faster decisions and in line with the market conditions. “IRDAI now has freedom to decide on the commission levels and the management expenses of the insurers. This will help it to have even more control on company’s management. So far the protection of the policyholders is concerned, the regulator is already empowered. It has already taken a lot of initiatives to educate customers and reduce misselling,” says he.

According to Baradhwaj, insurance companies will have to exercise more supervision on their proprietary sales force – individual agents and employees who sell the insurance policies, as they run the risk of penalty of up to Rs 1 crore on insurers. At the same time, with the scrapping of curbs and limits in the 1938 Insurance Act (such as expense and commission limits) and vesting powers with IRDAI, a practical and developmental view can be taken by the regulator. For policyholders, by prohibiting insurers from repudiating policies on grounds of mis-statements etc after 3 years would ensure that nominees get the intended benefits if the claims are regisered after 3 years. Further, the recogition of beneficial nominees (parents, spouse and children) is a welcome provision to protect against claims from other legal heirs. Provisions such as non-cancellation of nomination upon assignment of policies for loan, power of insurers to reject assignment requests etc are policyholder friendly provisions.

REINSURANCE

What does the bill offer for the re-insurance sector?

Shashwat Sharma says re-insurance companies can now set up branches in India and operate from within the country. “Some of the leading reinsurance companies are expected to set up branches in India post this provision and over a long term, this could enable India to become a regional reinsurance hub,” says he.

According to Sunil Sharma, the new act will enable foreign reinsurance companies to open branch office in Indian directly and this is a step in the right direction which will help in managing the insurance risks. He says many of the reinsurers are global players and have very diversified portfolio across markets around the world and given their high degree of diversification, their cost of capital is lower, which eventually benefits customers.

SCOPE FOR GI

The General Insurance Corporation and the other public sector general insurance companies are now permitted to raise capital. Will this be an easy task for them given the provision that government would continue to hold 51% stake in these entities? What could be the avenues of fund flows for them?

Jalan says the general insurance companies could tap the capital markets with the government liquidating some of its holdings – like in the case of other PSU disinvestments by government. “This should be no different. Additionally, there is a possibility that some large foreign MNCs might be interested in picking up stakes in these companies, if valuations are appropriate, as it provides these companies an opportunity to associate with market leading firms with great distribution network and reach, provided they have experience in working with state owned corporations elsewhere in the world.”

According to Shashwat Sharma, the General Insurance Business (Nationalization) Act, 1972 has been reformed to allow PSU general insurers and GIC Re to raise capital to fund future growth needs. “While I do not see divestment to happen in the immediate future, it is a possibility in the medium to long term.”

Sunil Sharma says these companies may have to undergo intense scrutiny and valuation by investment banks to estimate the future profitability and hence the valuation of the companies. It is a time consuming process and there is need to wait and watch.

CONSOLIDATION

Does the new act provide scope for consolidation in the sector?

Shashwat Sharma feels M&A activity would increase with the increase in FDI. “M&A activity in the industry is expected to be driven by four aspects. First, in joint ventures, the existing foreign partner may exit and new investors may take its place. Second, an insurance company that does not have any alliance partner may rope in a foreign partner to get access to global expertise. Third, global mergers and acquisitions could have an effect on insurance tie-ups. And finally, an insurance company with a diverse portfolio could decide to shed a business or businesses,” says he.

Vishakha points out that the industry today is at an interesting phase. “It’s at a phase where on one hand the government is ensuring that people realize the importance of planning for the long term; and on the other hand the industry is poised to take the next step towards sustained growth keeping the customer at the center of what it does. As a country, we have been slowly moving away from long term liabilities of defined benefits and defined contributions, which only add to the exchequer by passing on the responsibility of long term savings to individuals and providing them a conducive environment for the same. The government has not only created awareness about the importance of saving for pension and health care but has also been doing a lot to empower citizens across socio-economic strata’s with schemes such as the recently launched Pradhan Mantri Jeevan Jyoti Bhima. And now with the additional lease of life given by the increased FDI limits, there is enough potential for all players to grow. Hence I do not see any immediate need for consolidation. However, each company based on their own individual strategy may take calls in the future,” she adds.

Jalan feels there is immense scope for consolidation. “Expense structures remain unsustainably high for a number of players. Many are looking for an exit route. It is clear that the bigger players would get bigger and the smaller players would get more and more marginalized as the competition is cut-throat. However, for consolidation to happen, existing shareholders need to have realistic expectations from the valuations of their businesses. Most promoters have deep pockets and are able to hold out for a better valuation and therefore we’re not seeing immediate action on this front. But moving forward, one could definitely expect some significant consolidation.”

Sunil Sharma is of the view that it may be premature to comment on consolidation. “However, we have seen in the recent times that some of the existing players are looking for the right opportunity to exit the market,” says he.

Baradhwaj maintains that consolidation happens in other countries when the industry matures. “However, in India, the private insurance industry is only 15 years old. There were a few exits. Mergers and acquisitions happen globally when a smaller player is abosrbed by the bigger player. The Insurance Laws (Amendment) Act, 2015 provides powers to IRDAI to frame regulations in this regard,” says he.

SOLVENCY II

India is lagging behind in adopting Solvency II norms and even IRDA has gone on record stating it is not pragmatic for Indian insurers to immediately introduce these norms because of several factors. How risky in these circumstances will the insurance business be?

“Not much,” says Jalan, adding: “I think it is still early for introduction of Solvency II in India. Companies are still holding a capital at a very prudent level and inherently averse to risk – so in that environment, Solvency II would not add much value. Economic capital calculated by various companies indicates that the reserves and solvency margin already held by companies are sufficient. If companies move towards taking additional risks and hold reserves that do not reflect this, then it would be a concern and a regulatory intervention in the form of Solvency II might be necessary. However, given that this is not a current area of concern, introduction of Solvency II would only be disruptive rather than a value addition. Nevertheless, the regulator should continue insisting on private disclosures of economic capital and aim to strengthen the underlying EC calculations and models so that both, the companies and the regulator, are able to monitor the adequacy of the regulatory capital. That would be a more pragmatic approach.”

Vishakha says it will take some more time for the Indian market to absorb risk-based capital mechanism. The main challenge for India, however, is that evaluation of risk can throw up different figures for regulators, insurers and valuers because there are no proper systems of evaluation or calculation of such risks in the country, she says.

According to Sunil Sharma, Indian insurance market is different from the rest of the world, especially the way the investment funds of insurance companies are controlled and regulated. The current solvency norms in the country are quite prudent and “I don’t believe there is any immediate need to worry. Most companies in India are very well capitalized and I believe are in a position to meet any adverse changes.”

Baradhwaj points out that IRDAI encourages insurance companies to calculate their economic capital and report it as a part of the appointed actuary report. The insurance companies also monitor the position. “But the country will have to soon move to the Solvency II regime. From the market risks’ perspective, when compared to other countries, Indian government bonds still carry a higher rate of interest and the bond markets are stable though a fall in the interest rates is imminent,” says he.

Shashwat Sharma has the final word: “The existing Solvency I norms, coupled with the prudent reserving requirements, result in a fair amount of prudence for the insurance business in India at an aggregate level. Hence, the risk profile of the insurance business is not expected to be high. However, given the range of product offerings and spectrum of risks involved, it would be only fair to consider the risk profile of each line of business independently.”

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