i i for committee: thursday, november 13,2008 · november 6,2008 i i for meeting of committee:...

OFFICIAL USE ONLY MIGA/R2008-0062

November 6,2008

I I For meeting of

Committee: Thursday, November 13,2008 Closing Date: Friday, November 14,2008

FROM: Vice President and Corporate Secretary

Multilateral Investment Guarantee Agency Quarterly Unaudited Financial Statements

as o f September 30,2008

1. Attached are the unaudited MIGA Financial Statements as o f September 30,2008, together with a memorandum from the Director and Chief Financial Off icer to the Chairman o f the Audit Committee dated November 4,2008. The unaudited statements will be discussed at a meeting o f the Audit Committee o n Thursday, November 13,2008. The document i s being distributed in less than the normal lead time in order to maintain the scheduled Committee meeting date.

2. by noon o n Friday, November 14,2008), the MIGA Financial Statements (Unaudited) as o f September 30,2008, will be deemed approved and so recorded in the minutes of a subsequent meeting o f the Board o f Directors o f MIGA.

In the absence o f objection (to be noti f ied to the Vice President and Corporate Secretary,

3. Questions o n these documents may be addressed to Mr. Lu (ext. 33572).

Distribution: Executive Directors and Alternates President Bank Group Senior Management Vice Presidents, Bank, I F C and MIGA Directors and Department Heads, Bank, IFC and MIGA

This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contentl may not otherwise be disclosed without World Bank Group authorization.

THE WORLD BANWIFCYM.1.G.A.

OFFICE MEMORANDUM DATE:

TO:

FROM:

EXTENSION :

SUBJECT:

November 4,2008

Members o f the Audit Committee

Kevin Lu, Director & Chief Financial Officer, MIG

33572

September 30,2008 MIGA Financial Statements

Please find attached the Financial Statements at September 30, 2008 for the Multilateral Investment Guarantee Agency (MIGA) and a description o f operational and financial highlights that took place during the first three months o f FY09.

Operational Highlights

As of September 30, 2008, guarantees issued stand at US$73.0 million, compared to US$26.5 mi l l ion during the same period in FY08. The gross and net exposures amounted to US$6,391.2 mi l l ion and US$3,553.0 mi l l ion compared to US$4,992.7 mi l l ion and US$3,042.9 mi l l ion during the same period in FY08 and US$6,475.1 mi l l ion and US$3,577.8 mi l l ion as o f June 30,2008.

As o f September 30, 2008, cancellations, expiries, reductions and translation adjustments amounted to US$156.9 mi l l ion compared to US$335.0 mi l l ion during the same period in FY08.

MIGA’s portfolio consists o f mainly high investment grade instruments. MIGA’s investment portfolio and investment returns have fared relatively well, given the volatile market conditions,. However, the QlFY09 performance o f MIGA’s investment portfolio has been moderately affected by the on-going financial crisis.

O f MIGA’s total portfolio, 62% o f assets are held in overnight cash deposits and money market deposit accounts. I B R D ’ s Treasury department has taken an active approach to monitor these cash investments by limiting the amount o f total deposits held in each commercial bank, and simultaneously increasing the number o f commercial banks which hold deposits. At September 30, 2008, twenty seven commercial banks rated A+ or better each held on average US$22 mi l l ion o f MIGA’s cash deposits. IBRD’s Treasury department continues to monitor the ratings o f these counterparties and market conditions so as to make adjustments to where and how long monies are placed.

MIGA’s mortgage backed securities (MBS) make up 15% o f the portfolio. These securities are investment grade and now under the purview o f the U S government

through its conservatorship o f FannieMae and FreddieMac. Asset backed securities (ABS) , which are 10% o f the portfolio, include credit card receivables and student loans. These continue to experience devaluations related to the credit crisis which may continue into the future. As o f September 30, 2008, no impairments have been recognized for A B S . Both M B S and A B S continue to show price volatility as spreads on these products widen or narrow based on market conditions. In the long-term, the coordinated response to the global crisis should help reduce asset price volatility and bring market value movements to more normalized levels.

Investment income in FY09 i s expected to be lower than that o f FY08 given the overall lower interest rate environment.

Capital Subscriptions

During the first quarter o f FY09, no new countries joined MIGA. The number o f member countries remains at 172. There were no new payments received on account o f GCI. As o f September 30, 2008, cumulative subscriptions to the GCI totaled 68,934 shares equivalent to US$745.9 million. This represented 87.75% o f the total GCI.

Income from Guarantees

During the f irst three months o f FY09, total gross revenues earned from guarantee activities amounted to US$11.1 million, compared to US$8.7 mi l l ion during FY08. Of this amount, US$9.4 mi l l ion was for net premium earned and US$1.7 mi l l ion was for commissions and fees, compared respectively to US$7.8 mi l l ion and US$O.9 mi l l ion during FY08. N e t Premium earned increased by US$1.6 mi l l ion and Fees and Commissions increased by US$0.8 mi l l ion during FY09.

Table 1. Premium Income Analysis FY06-FY09 (Ql)

U S $ Millions FY06 FY07 FY08 FY09 FY08

Total Guarantees Issued 1,302 1,368 2,098 73 27 Gross Exposure 5,362 5,301 6,475 6,391 4,993 N e t Exposure 3,310 3,209 3,578 3,553 3,043

Premium income 52.9 49.0 54.4 15.8 12.4 Premium ceded (20.5) (17.3) (21.1) (6.4) (4.6) Fees and commissions 4.8 4.6 5.6 1.7 0.9

Net premium income 37.2 36.3 38.9 11.1 8.7

Effective Premium Rate* on 1.00% 0.98% 0.95% 0.98% 0.99% average portfolio during the FY Effective Premium Rate* on 0.74% 0.94% 0.73% 0.53% 1.74% new issuances * Effective premium rate is based on premium earned during the fiscal year on average exposure

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Investment Income

As o f September 30, 2008, MIGA’s investment portfolio generated US$S.O mill ion compared to US$13.8 mi l l ion o f investment income during the same period in FY08. The 12-month roll ing return (from September 30, 2007) for Tranche 1 i s 4.19%, and the annualized return since inception (fi-om August 3 1,2004) for Tranche 2 i s 4.12%.

Table 2. Investment Income FYO6-FYO9 (Ql) U S $ Millions FY06 FY07 FY08 FY09 FY08

Investment portfolio 787 84 1 915 917 854 Total return on 1.5 5.4 5.3 1 .o 1.6 investments % *

Investment income * 11.4 42.8 45.3 8.0 13.8

* The “total return on investments” figures are calculated to reflect the total economic gains/losses, including unrealized gainsilosses, and are therefore comparable. Numbers reflect annual return for FY06-08, and year- to-date return for the first quarters o f FY08 and FY09.

Table 3. YTD Investment Return of MIGA Investment Tranches (non-annualized) USD Tranch 1 USD Tranch 2 Multi-currency

U S Treasury 1.12% 1.12% NJA Operational Cash 0.72% N/A NIA MBS N/A 1.60% NJA

Total 0.79% 1.02% 1.12% Total MIGA Portfolio 0.96%

Portfolio

Time Deposits 0.67% 0.67% 1.12%

Reserve for Claims

As o f September 30, 2008, MIGA’s gross and net reserve for claims amounted to US$199.2 mi l l ion and US$167.5 mi l l ion compared respectively to US$19 1 .O million and US$157.4 mi l l ion as o f June 30, 2008. MIGA recorded a provision for claims o f US$10.1 mi l l ion as o f September 30,2008.

The total reserves consist o f two main parts: (i) the Specific Reserve and (ii) the Insurance Portfolio Reserve. As o f September 30, 2008, MIGA’s Specific Reserve stands at US$37.0 mi l l ion on net basis compared to US$29.6 mi l l ion as o f June 30, 2008. In the Specific Reserve, MIGA currently identif ies twelve contracts. The Insurance Portfolio Reserve i s calculated at US$130.6 mi l l ion on net basis compared to US$127.8 mi l l ion as o f June 30,2008.

MIGA’s Specific Reserve was increased by US$7.4 mi l l ion primarily due to the two additional contracts which were added to the probable loss reserve. The Insurance Portfolio Reserve increased by US$2.7 million primarily as a result o f the attribution o f

Page 3 of 5

specific reserving parameters to the two new contracts and the reduced recovery assumption for the one contract in the probable loss reserve. On a portfolio basis, the underlying country risk had not changed significantly.

MIGA utilizes an economic capital framework to establish the size o f i t s Insurance Portfolio Reserve at the 95th percentile loss level. The underlying loss distribution for this quarter, at the policy-based 99 year horizon, i s shown below in Chart 1.

Chart 1. Loss Curve for Portfolio as of end-September 2008 F Y O S 41 Aggregate Portfolio Loss Distrlbution

99 y e a r horizon

I 0 50 100 150 200 250 300 ~

I Loss ($ millions)

Administrative Expenses

The administrative expenses as o f September 30, 2008 amounted to US$6.9 mi l l ion on an accrual basis and US$7.6 mi l l ion on cash basis compared to US$6.7 mi l l ion and US$7.9 mill ion during the same quarter in FY08. This represents 18% and 20% percent o f the budget compared to 18% and 21% during the same period in FY08. The FY09 budget allocation (excluding a contingency o f US$0.6 million) on a straight line basis i s US$9.4 million. The first quarter expenses are traditionally below straight-line allocations, in part because the quarter encompasses the summer months.

Net Income (Loss)

Net loss for the quarter ended September 30, 2008 amounted to US$9.2 million, compared to an income o f US$26.3 mi l l ion during the quarter ended September 30,2007 inspite o f an increase in net premium income o f US$1 1.1 mi l l ion in Q1 FY08 compared to US$8.7 mi l l ion in Q1 FY07. This i s primarily driven by lower investment income, foreign currency translation losses on investments and charge for provision for claims.

Liquidity

MIGA measures liquidity by reference to: (i) the resources that are available to pay claims (“Sources o f Cash”), and (ii) the capital and reserves that are available to sustain losses and support the on-going business (“Operating Capital”). As o f September 30, 2008, Sources o f Cash amounted to US$1,035 million, including MIGA’s cash and investment portfolio o f US$923 mi l l ion and promissory notes o f US$112 million. Operating Capital of US$1,014 mi l l ion was comprised o f an Insurance Portfolio Reserve amounting to US$130 million, Retained Earnings and other income o f US$521 million,

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and Paid-in Capital o f US$363 million. In addition, MIGA was supported by US$1.5 bil l ion o f callable capital.

Table 4. Liquidity FY06-FY09 (Ql)

US$ Mil l ions FY06 FY07 FY08 FY09 FY08 (Q1) (Q1)

Cash and investmentda) 792 847 92 1 923 860 Credit facilities 50 0 0 0 0 Promissory notes 109 110 113 112 111 Sources of Cash 951 957 1.034 1.035 97 1 Insurance Portfolio 120 118 128 130 114 Reserve (net) Retained earnings & 3 84 472 530 521 498

Paid-in capital 359 360 361 3 63 3 60 Operating Capital 863 950 1,019 1,014 972

(a) Investment amounts are shown net o f receivable and payable for trading securities.

other income

Quarterly Review Opinion by KPMG

For Q1 FY09, MIGA added additional disclosures and produced full financial statements, instead o f the ''condensed'' financial statements it produced for prior interim financial statement periods. MIGA thus complied with full U S GAAP financial statement disclosures required to obtain a clean U S G M quarterly review opinion.

The reason MIGA decided to produce full statements was because KPMG concluded through i t s national office and based on the current AICPA review standards that the review opinions they issue to SEC-registrants for "condensed" financial statements did not apply to a non-SEC registrant l ike MIGA. However, the AICPA has recently issued an exposure draft on Auditing Standards relating to "Interim Financial Information" likely to be effective in 42 FY09. The exposure draft addresses this issue to bring non- SEC registrants more in l ine with the llcondensed'l interim financial statements reporting requirements that i s applicable to SEC registrants.

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Quarterly Financial Statements

U N A U D I T E D

September 30,2008

MIGA Condensed Financial Statements

Table o f Contents September 30. 2008

Balance Sheet ............................................................................................................................................................. 1

Statement o f Income ................................................................................................................................................... 2

Statement o f Comprehensive Income ......................................................................................................................... 3

Statement o f Changes in Shareholders’ Equity .......................................................................................................... 3

Statement o f Cash Flows ............................................................................................................................................ 4

Notes to Financial Statements .............................................................................................................................. 5-18

MIGA Financial Statements 1

Balance Sheet September 30,2008 (unaudited) and June 30,2008 Expressed in thousands o f U S dollars

Assets CASH ...................................................................................................................................

INVESTMENTS - Note B ............................................................................

NONNEGOTIABLE, NONINTEREST-BEARING DEMAND OBLIGATIONS ..........................................................................................

OTHER ASSETS Receivable for investment securities sold. ..................................................................... Estimated reinsurance recoverables ............................................... ....................... Prepaid premiums ceded to reinsurers ........................................................................... Net assets under retirement benefits plans ..................................................................... Miscellaneous ................................................................................................................

TOTAL ASSETS ..................................................................................................................

Liabilities and Shareholders’ Equity

September 30

$ 10,788

944,540

112,018

125,248 3 1,700 15,935 47,63 1 10,657

231,171

$1.298.517

L IABIL IT IES Payable for investment securities purchased ................................................................. $ 161,018

Accounts payable and accrued expenses ....................................................................... 18,271

Unearned premiums and commitments fees ............. ............................. 36,225

Specific reserve for claims ..................................................................................... 63,500 Insurance portfolio reserve .. .... 135,700 Reserve for claims - gross ......... ................................................................. 199.200

Total liabilities ....................................................................................................... 414,714

Reserve for claims - Note E

CONTINGENT L IABIL IT IES - Note D

SHAREHOLDERS’ EQUITY Capital stock - Note C

Authorized capital (1 84,404 shares- September 30,2008; 184,404 shares-June 30,2008) Subscribed capital (174,779 shares- September 30,2008; 174,779 shares-June 30,2008) 1,891,109 Less uncalled portion o f subscriptions ................................................................... 1,530.4 15

360,694 Payments on account o f pending subscriptions ............................................................. 1,735

362,429 Retained earnings .......................................................................................................... 499,338

22.036 Accumulated other comprehensive income ...................................................................

Total shareholders’ equity ...................................................................................... 883,803

TOTAL LIABIL IT IES AND SHAREHOLDERS’ EQUITY .............................................. $1.298517

June 30

$ 6,301

966,047

113.203

29,284 33,600 13,695 47,O 15 10,740

134,334

$ 85,434

18,918

33,274

55,200 135,800 19 1,000

328,626

1,891,109 1,530,415

360,694 67

360,761 508,545 2 1,953

89 1,259

$1.219.885

See accompanying notes to the financial statements.

2 MIGA Financial Statements

Statement of Income F o r the three months ended September 30. 2008 (unaudited) and September 30. 2007 (unaudited) Expressed in thousands o f U S dollars

INCOME Income fiom guarantees

Premium income ..................................................................................................... Premium ceded ....................................................................................................... Fees and commissions ............................................................................................ Total .......................................................................................................................

Income fiom investments ............................................................................................... Translation gains (losses) ..............................................................................................

Total income ...........................................................................................................

EXPENSES Provision for (release of) claims . Note E ..................................................................... Administrative expenses . Notes F and G ...................................................................... Other expenses ..............................................................................................................

Total expenses ........................................................................................................

NET INCOME (LOSS) ........................................................................................................

$ 15. 877

1. 665 11.107

(6. 435)

8. 807 (11. 917)

7. 997

10. 100 6. 861

243

17. 204

$ 12. 344

931 8.724

(4. 551)

13. 758 6. 314

28. 796

(4. 400) 6. 721

196

2. 517

See accompanying notes to the financial statements .


Statement of Comprehensive Income For the three months ended September 30,2008 (unaudited) and September 30,2007 (unaudited) Expressed in thousands of U S dollars

NET INCOME (LOSS) .......................................................................................................

OTHER COMPREHENSIVE INCOME Change in unrecognized net actuarial gains on benefit plans ........................................

Total other comprehensive income ......................................................................... Change in unrecognized prior service credits on benefit plans ......................................

COMPREHENSIVE INCOME (LOSS) ...............................................................................

$ (9.207) $26.279

38 9 45 44 83 53

$ (9,124) $26,332

Statement o f Changes in Shareholders’ Equity For the three months ended September 30,2008 (unaudited) and September 30,2007 (unaudited) Expressed in thousands of U S dollars

2008 2007

$ 360,761 $ 359,651 CAPITAL STOCK

Balance at beginning o f the fiscal year .......................................................................... Receipts on account o f pending subscriptions ............................................................... 1,668

Ending Balance .............................................................................................................. 362,429 359,651

RETAINED EARNINGS Balance at beginning o f the fiscal year .......................................................................... Net income (loss) .......................................................................................................... Ending Balance ..............................................................................................................

TOTAL ACCUMULATED OTHER COMPREHENSIVE INCOME Balance at beginning o f the fiscal year ..........................................................................

Other comprehensive income ................................................................................. Ending Balance ..............................................................................................................

TOTAL SHAREHOLDERS’ EQUITY ................................................................................

5 0 8,5 4 5 442,824 (9,207) 26,279

499,338 469.103

21,953 28,843 83 53

22,036 28,896

$883.803 L8-



Statement of Cash Flows For the three months ended September 30,2008 (unaudited) and September 30,2007 (unaudited) Exmessed in thousands o f U S dollars

CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) .................. .................................................. .... ........................ ........... Adjustments to reconcile net income to net cash provided by operating activities:

Provision for (release of) claims ........................................................................... Translation losses (gains) ..................................................................................... Net changes in:

Investments - Trading ..... ... . . . . . . .. . . .. . . .. . . . . . ... .. . . . . . . . . . . . .. .. . . . . . . .. . . . . . . . .. . . . . . . . . . . . .. . . .. . .. . Other assets, excluding investment receivables ........................................ ........ Accounts payable and accrued expenses ..................... ......................... ............ Unearned premiums and commitment fees .................................................

Net cash provided by operating activities

CASH FLOWS FROM FINANCING ACTIVITIES: Decrease in overdraft ..................................................................................................... Capital subscription receipts (payments) . .. . . . . .. . .. .. . . . . . . . . . . . . . . . . .. .. . . . .. . . . . . . .. .. . . . . . . . . . . .. . . . . . . . . . .

N e t cash provided by (used in) financing activities

EFFECT OF EXCHANGE RATE CHANGES ON CASH ..................................................

Net increase (decrease) in cash ...................................................................................... Cash at beginning of the fiscal year ...............................................................................

CASH AT END OF THE PERIOD ......................................................................................

$ (9,207)

10,100 11,917

(9,467) (2,938)

(470) 3,223 3.158

1,668 1,668

(339)

4,487 6,301

$ 26,279

17,510 (4,343) (1,709) (2,920)

24.103

(24,272)

(24.273) (1)

135

(35) 6,105

$ 6:070


MIGA Financial Statements 5 Notes to Financial Statements Purpose

The Multilateral Investment Guarantee Agency (MIGA), established on April 12, 1988 and located in Washington D.C., i s a member o f the Wor ld Bank Group which also includes the International Bank for Reconstruction and Development (IBRD), the International Finance Corporation (IFC), and the International Development Association (IDA). MIGA’s activities are closely coordinated with and complement the overall development objectives o f the other World Bank institutions. MIGA i s designed to help developing countries attract productive foreign investment by both private investors and commercially operated public sector companies. I t s facilities include guarantees or insurance against noncommercial risks and a program o f advisory services and technical assistance to support member countries’ efforts to attract and retain foreign direct investment.

Note A: Summary o f Significant Accounting and Related Policies

Basis of Preparation MIGA’s financial statements have been prepared in accordance with International Financial Reporting Standards (IFRS) issued by the International Accounting Standards Board and with accounting principles generally accepted in the United States o f America (U.S. GAAP). The financial statements for the period ended September 30, 2008 and 2007 are in compliance with International Accounting Standard (IAS) 34, “Interim Financial Report.” The policy adopted i s that considered most appropriate to the circumstances o f MIGA having regard to i t s legal requirements and to the practices o f other international insurance entities. The Balance Sheet as o f June 30, 2008, included for comparative purposes only, i s derived from the audited financial statements as o f June 30,2008.

In the opinion o f management, all adjustments necessary for a fair presentation o f the financial position and the results o f operations for the interim periods have been made. For further information, refer to the financial statements and notes thereto included in the Agency’s Annual Report for the fiscal year ended June 30, 2008. The results o f operations for the three months o f the current fiscal year are not necessarily indicative o f results that may be expected for the full year.

Accounting & Reporting Developments The International Accounting Standard Board (IASB) issued International Financial Reporting Standard (IFRS) 4 “Insurance Contracts ” in March 2004 to achieve convergence o f widely varying insurance industry accounting practices around the world. IASB has divided the insurance project into two phases. In l ine with the requirements o f Phase 1, MIGA included additional disclosures beginning the quarter ended September 30, 2005 that identify and explain the amounts in the financial statements arising from insurance contracts. Phase 2 o f the project i s expected to come into effect in 20 1 1. This will address issues relating to insurance accounting.

In September 2006, the Financial Accounting Standards Board (FASB) issued the Statement o f Financial Accounting Standards No. 157, “Fair Value Measurements” (FAS 157). FAS 157 defines fair value, establishes a consistent framework for measuring fair value and expands disclosure requirements about fair value measurements. FAS 157 also requires that the valuation techniques used to measure fair value maximize the use o f observable inputs and minimize the use o f unobservable inputs. MIGA has implemented the standard as o f July 1,2008.

In December 2007, the FASB issued the Statement o f Financial Reporting Standard No. 160, “Non- controlling Interests in Consolidated Financial Statements - an amendment of ARB No. 51” (FAS 160), which changes the accounting and reporting for minority interests. This statement i s effective for fiscal years beginning on or after December 15, 2008. FAS 160 will not impact MIGA’s financial statements.


Notes to Financial Statements In March 2008, the FASB issued the Statement o f Financial Accounting Standard No.161, "Disclosures about Derivative Instruments and Hedging Activities" (FAS 161). FAS 161 i s intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to better understand their effects on an entity's financial position, financial performance, and cash flows. The provisions o f FAS 161 are effective for periods beginning after November 15, 2008. MIGA i s currently evaluating the impact o f the provisions o f FAS 161.

In May 2008, the FASB issued the Statement o f Financial Accounting Standards No. 163 "Accounting for Financial Guarantee Insurance Contracts, an Interpretation of FASB Statement No. 60" (FAS 163). For certain financial insurance guarantee contracts, th is statement addresses premium revenue recognition, claim liability recognition and disclosures related to each. Except for certain disclosures that are applicable for quarter ending September 30, 2008 onwards, this statement i s effective for fiscal years beginning after December 15, 2008. FAS 163 will not impact MIGA's fmancial statements.

Differences between U S GAAP and IFRS On September 29, 2006, the FASB issued the Statement o f Financial Accounting Standard No. 158, Employers' Accounting for Defined Benefit Pension and Other Postretirement Plans (FAS 158). FAS 158 requires employers to recognize on their balance sheets the funded status o f their defined benefit postretirement plans, measured as the difference between the fair value o f the plan assets and the benefit obligation. Gains or losses and prior service costs or credits that arise during the period are recognized as part o f Other Comprehensive Income, to the extent they are not recognized as components o f the net periodic benefit cost. Additionally, upon adoption, FAS 158 requires unrecognized net actuarial gain or loss and unrecognized prior service costs to be recognized in the ending balance o f Accumulated Other Comprehensive Income. These amounts will be adjusted as they are subsequently recognized as components o f net periodic benefit cost, based upon the current amortization and recognition requirements o f Statement o f Financial Accounting Standard No. 87, Employers 'Accounting for Pensions (FAS 87) and Statement o f Financial Accounting Standards No. 106, Employers' Accounting for Postretirement Benefits Other Than Pensions (FAS 106). FAS 158 has been adopted by MIGA effective June 30,2007.

MIGA's accounting policy under International Accounting Standards (IAS) 19, Employee Benefits i s to recognize all actuarial gains and losses in the period in which they occur-but outside profit or loss-"in a statement o f changes in shareholder's equity." This i s a permitted alternative available under I A S 19 and MIGA considers that this will allow it to show the overhnder funded position on the balance sheet thereby making i t s financial statements more relevant and complete. SFAS 158 requires prospective application o f the standard, while the change in approach under JAS 19 requires retrospective application. In addition, SFAS 158 and I A S 19 differ in the treatment o f amortization o f unrecognized actuarial gains or losses. SFAS 158 requires the unrecognized actuarial gains or losses to be amortized to the Income Statement, and I A S 19 requires the unrecognized actuarial gains or losses to remain in Accumulated Other Comprehensive Income. As a result, Net Income i s lower by $38,000 and $9,000 for the three months ended September 30, 2008 and September 30, 2007 respectively as reported under U S GAAP compared to IFRS. MIGA does not believe these differences are material.

Use of Estimates The preparation o f fmancial statements in conformity with International Financial Reporting Standards and accounting principles generally accepted in the United States o f America requires management to make estimates and assumptions that affect the amounts reported in the financial statements. Actual results could differ f iom these estimates.


Notes to Financial Statements Significant judgments have been made in areas which management views as most critical with respect to the establishment o f i t s loss reserves, the determination o f net periodic income from pension and other post retirement benefits plans, and the present value o f benefit obligations.

The significant accounting policies employed by MIGA are summarized below.

Cash Cash includes cash and cash equivalents which consist primarily o f highly liquid investments with insignificant interest rate risk and remaining maturities o f three months or less at the date o f purchase.

Investments MIGA manages i t s investment portfolio both for the purpose o f providing liquidity for potential claims and for capital growth. MIGA invests in time deposits, Mortgage/Asset-Backed Securities and government and agency obligations based on i ts investment policy approved by the Board. Government and agency obligations include highly rated fixed rate bonds, notes, bills and other obligations issued or unconditionally guaranteed by governments o f countries or other official entities including government agencies or by multilateral organizations. MIGA also enters into exchange traded futures and options transactions to manage i t s investment portfolio. The purposes o f these transactions are to enhance the return and manage the overall duration o f the portfolio. With respect to fbtures and options, MIGA generally closes out most open positions prior to expiration. Futures are settled on a daily basis.

MIGA has classified all investment securities as trading. Investments classified as trading securities are reported at fair value using trade-date accounting. Securities purchased or sold may have a settlement date that i s different from the trade-date. Securities purchased that could not be settled before the reporting dates are recorded as liability. Similarly, securities sold that could not be settled before the reporting dates are recorded under “Other Assets.”

For trading securities, unrealized net gains and losses are both recognized in earnings. N e t gains and losses include interest income under the caption “Income from investments.”

Nonnegotiable, Noninterest-bearing Demand Obligations on Account of Subscribed Capital Payments on these instruments are due to MIGA upon demand and are held in bank accounts which bear MIGA’s name. Accordingly, these instruments are carried and reported at face value as assets on the balance sheet.

Impairment of Reinsurance Assets MIGA assesses at each balance sheet date whether there i s objective evidence that the reinsurance asset i s impaired, and makes a provision for such impairment. Objective evidence may be in the form o f observable data that comes to MIGA’s attention periodically. If an impairment i s determined, the carrying amount o f the reinsurance asset i s reduced through the use o f an allowance account and the amount o f the loss i s recognized in the income statement.

Reserve for Claims MIGA’s reserve consists o f two primary components, the Specific Reserve and the Insurance Portfolio Reserve. These components are comprehensive and mutually exclusive with respect to risk o f losses that may develop from each guarantee contract, and from the contingent l iabil i ty for the portfolio as a whole.

The Specific Reserve i s calculated based on contract-specific parameters that are reviewed every quarter by MIGA Management for contracts that have known difficulties. The Insurance Portfolio Reserve i s calculated based on the long-term historical experiences o f the political risk industry.


Notes to Financial Statements

Assumptions and parameters used in the calculations are intended to serve as the basis for an objective, reasonably conservative and arms-length valuation o f insurance liabilities with a specified level o f prudence. Key assumptions, including frequency o f claim, severity, and expected recovery have been quantitatively derived from the political risk insurance industry’s historical claims data. The principal sources o f data used as inputs for the assumptions include the Berne Union and the Overseas Private Investment Corporation (OPIC). The historical analysis o f the data from those sources i s further augmented by an internal econometric scoring analysis in order to derive risk-differentiated parameters with term structure effects over time. The historical and econometric analyses cover periods that are over 30 years, and the derived parameters are considered stable in the short term; however the analyses are reviewed annually. Short-term risk changes are captured by changes in internal risk ratings for countries and contracts on a quarterly basis. For the purpose o f claims provisioning, MIGA discounts i t s reserves based on 10-year U.S. Treasury rate.

For the purpose o f the presentation o f the financial statements, insurance liabilities (or reserves) are presented on a gross basis and not net o f reinsurance. Therefore, MIGA’s reserve i s shown on a gross basis on the liability side o f the balance sheet, while establishing reinsurance assets on the asset side. Reinsurance does not relieve MIGA o f its primary liability to the insured.

Currency Translation Assets and liabilities are translated at market exchange rates in effect at the end o f the period. Income and expenses are translated at either the market exchange rates in effect on the dates on which they are recognized or at an average o f the market exchange rates in effect during each month. Translation adjustments are reflected in the Income Statement.

Valuation of Capital Stock Under the MIGA Convention, all payments from members subscribing to the capital stock o f MIGA shall be settled on the basis o f the average value o f the Special Drawing Rights (SDR) introduced by the International Monetary Fund, as valued in terms o f United States dollars for the period January 1, 1981 to June 30,1985, such value being equal to $1.082 for one SDR.

Revenue Recognition Premium amounts received on direct insurance contracts and reinsurance contracts assumed can be annual, semi-annual or quarterly and are recorded as unearned premium. Premiums are recognized as earned on a pro rata basis over the contract period. A receivable for premium i s recorded when the contract has been renewed and coverage amounts have been identified.

MIGA cedes reinsurance in the normal course o f business by obtaining treaty and facultative reinsurance to augment i t s underwriting capacity and to mitigate i t s risk by protecting portions o f i t s insurance portfolio. Premiums ceded (net o f commission) follow the same approach as for direct insurance contracts and are recognized as expenses on a pro rata basis over the contract period.

Fees and commissions income for MIGA primarily consists o f administrative fees, arrangement fees, annual fees, renewal fees, commitment (offer) fees, and ceding commissions.

Note B: Investments

MIGA classifies all investment securities as trading. Investments classified as trading securities are reported at fair value with unrealized gains or losses included in earnings. The unrealized gains included in the investment income for the three months ended September 30, 2008 i s $1,547,000 (unrealized gains o f $1,125,000 - September 30,2007).


Notes to Financial Statements Fair Value Measurements (FAS 157) FAS 157 defines fair value, establishes a consistent framework for measuring fair value, establishes a fair value hierarchy based on the quality o f inputs used to measure fair value and expands disclosure requirements about fair value measurements.

MIGA has an established process for determining fair values. Fair value i s based upon quoted market prices, where available. Financial instruments for which quoted market prices are not readily available are valued based on discounted cash f low models. These models primarily use market-based or independently sourced market parameters such as yield curves, interest rates, volatilities, foreign exchange rates and credit curves. To ensure that the valuations are appropriate where internally-developed models are used, MIGA has various controls in place, which include both internal and periodic external verification and review.

Fair Value Hierarchy FAS 157 establishes a three-level fair value hierarchy under which financial instruments are categorized based on the priority o f the inputs to the valuation technique. The fair value hierarchy gives the highest priority to quoted prices in active markets for identical assets or liabilities (Level 1), the next highest priority to observable market-based inputs or inputs that are corroborated by market data (Level 2) and the lowest priority to unobservable inputs that are not corroborated by market data (Level 3). When the inputs used to measure fair value fa l l within different levels o f the hierarchy, the level within which fair value measurement i s categorized i s based on the lowest level input that i s significant to the fair value measurement in i t s entirety. Thus, a Level 3 fair value measurement may include inputs that are observable (Levels 1 and 2) and unobservable (Level 3). Additionally, FAS 157 requires that the valuation techniques used to measure fair value maximize the use o f observable inputs and minimize the use o f unobservable inputs.

Financial assets and liabilities at fair value are categorized based on the inputs to the valuation techniques as follows:

Level 1: Financial assets whose values are based on unadjusted quoted prices for identical assets or liabilities in active markets.

Level 2: Financial assets and liabilities whose values are based on quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in non- active markets; or pricing models for which al l significant inputs are observable, either directly or indirectly for substantially the full te rm o f the asset or liability.

Level 3: Financial assets and liabilities whose values are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement.

The following table presents MIGA’s summary o f the trading portfolio and the fair value hierarchy:


Notes to Financial Statements I n thousands of US Dollars

September 30,2008 June 30,2008

Government Obligations and Corporate Bonds $ 97,029 $ 82,701 Time Deposits 593,333 624,964 Asset Backed Securities 254,178 258,382

$ 944,540 $ 966,047

Level 1 Assets Level 2 Assets Level 3 Assets

$ 188,950 $ 146,345 755,590 8 19,702

$ 966,047

The maximum credit exposure o f investments closely approximates the fair values o f the financial instruments.

Asset backed securities ( A B S ) are diversified among credit cards, student loans, home equity loans and mortgage backed securities. Since these holdings are primarily investment grade, neither concentration risk nor credit risk represents a significant risk to MIGA.

Note C: Capital Stock

During the three months ended September 30, 2008, no shares were subscribed by the member countries.

Note D: Guarantees

Guarantee Program MIGA offers guarantees or insurance against loss caused by non-commercial r isks (political risk insurance) to eligible investors on qualified investments in developing member countries. MIGA insures investments for up to 20 years against four different categories o f risk: currency inconvertibility and transfer restriction, expropriation, war and civi l disturbance, and breach o f contract. Currency inconvertibility and transfer restriction coverage protects the investor against inconvertibility o f local currency into foreign exchange for transfer outside the host country. Currency depreciation i s not covered. Expropriation coverage protects the investor against partial or total loss o f the insured investment as a result o f acts by the host government that may reduce or eliminate ownership of, control over, or rights to the insured investment. War and civi l disturbance coverage protects the investor against losses from damage to, or the destruction or disappearance of, tangible coverage assets, as wel l as a total loss due to business interruption extending for a period o f at least 180 days, caused by politically motivated acts o f war or c iv i l disturbance in the host country including revolution, insurrection, coup d’etat, sabotage and terrorism. Breach o f contract coverage protects the investor against the inability to enforce an award arising out o f an arbitral or judicial decision recognizing the breach o f a covered obligation by the host government. Investors may insure projects by purchasing any combination o f the four coverages. MIGA guarantees cannot be terminated unilaterally by the guarantee holder within the f i rst three years from the date o f issuance without payment o f a termination fee except as provided in the contract. MIGA cannot terminate the contract unless the guarantee holder defaults on i t s contractual obligations to MIGA.

Premium rates applicable are set forth in the contracts. Payments against al l claims under a guarantee may not exceed the maximum amount o f coverage issued under the guarantee. Under breach o f contract coverage, payments against claims may not exceed the lesser o f the amount o f guarantee and the arbitration award.


Notes to Financial Statements MIGA also acts as administrator o f some investment guarantee t rust funds. MIGA, on behalf o f the trust funds, issues guarantees against loss caused by non-commercial risks to eligible investors on qualified investments in the countries specified in the trust fund agreements. Under the trust fund agreements, MIGA, as administrator o f the trust funds, i s not liable on i t s own account for payment o f any claims under contracts o f guarantees issued by MIGA on behalf o f such t rust funds which at September 30,2008 amounts to $3,500,000 ($3,517,000 -June 30,2008).

Contingent Liability The maximum amount o f contingent liability o f MIGA under guarantees issued and outstanding at September 30, 2008 totaled $6,391,217,000 ($6,475,136,000 -June 30, 2008). A contract of guarantee issued by MIGA may permit the guarantee holder, at the start o f each contract period, to elect coverage and place amounts both on current and standby. MIGA i s currently at risk for amounts placed on current. The maximum amount o f contingent liability i s MIGA's maximum exposure to insurance claims, which includes "standby" coverage for which MIGA i s committed but not currently at risk. At September 30, 2008, MIGA's actual exposure to insurance claims, exclusive o f standby coverage i s $5,282,272,000 ($5,159,055,000 - June 30,2008).

Reinsurance MIGA obtains treaty and facultative reinsurance (both public and private) to augment i t s underwriting capacity and to mitigate i t s risk by protecting portions o f i t s insurance portfolio, and not for speculative reasons. All reinsurance contracts are ceded on a proportionate basis. However, MIGA i s exposed to reinsurance non-performance risk in the event that reinsurers fai l to pay their proportionate share o f the loss in case o f a claim. MIGA manages this risk by requiring that private sector reinsurers be rated by at least two o f the four major rating agencies (Standard & Poor's, A.M. Best, Moody's and Fitch), and that such ratings be above a minimum threshold. In addition, MIGA may also place reinsurance with public insurers o f member countries that operate under and benefit from the full faith and credit o f their governments and with multilateral agencies that represent an acceptable counterparty risk. MIGA has established limits, at both the project and portfolio levels, which restrict the amount o f reinsurance that may be ceded. The project limit states that MIGA may cede no more than 90 percent o f any individual project. The portfolio limit states that MIGA may not reinsure more than 50 percent o f i t s aggregate gross exposure.

Of the $6,391,2 17,000 outstanding contingent l iabil i ty (gross exposure) as at September 30, 2008 ($6,475,136,000 - June 30, 2008), $2,838,246,000 was ceded through contracts o f reinsurance ($2,897,318,000 - June 30, 2008). Net exposure amounted to $3,552,971,000 as at September 30, 2008 ($3,577,818,000 - June 30,2008).

As o f September 30,2008, no reinsurance was assumed by MIGA.

Premiums relating to direct, assumed, and ceded contracts for the three months ended September 30,2008 and September 30,2007 were as follows:

I n thousands of US dollars Three months ended Seut. 30, 2008 Seut. 30. 2007

Premiums written Direct Assumed Ceded

Premiums earned Direct Assumed Ceded

$18,150 $9,363

8,676 3,240 -

15,877 12,267 77

6,43 5 4,55 1



Portfolio Risk Management Controlled acceptance o f political risk in developing countries i s MIGA's core business. The underwriting o f such risk requires a comprehensive risk management framework to analyze, measure, mitigate and control risk exposures.

Claims risk, the largest risk for MIGA, i s the risk o f incurring a financial loss as a result o f a claimable political risk event in developing countries. Political risk assessment forms an integral part o f MIGA's underwriting process and includes the analysis o f both country-related and project- related risks.

Country risk assessment i s a combination o f quantitative and qualitative analysis. Ratings are assigned individually to each risk for which MIGA provides insurance coverage in a country. Country ratings are reviewed and updated every quarter. Country risk assessment forms the basis o f the underwriting o f insurance contracts, setting o f premium levels, and provisioning for claims.

Project-specific risk assessment i s performed by a cross-functional team. Based on the analysis o f project-specific risk factors within the country context, the final project risk ratings can be higher or lower than the country ratings o f a specific coverage. The decision to issue an insurance contract i s subject to approval by MIGA's Senior Management and concurrence by the Board o f Directors. In order to avoid excessive risk concentration, MIGA sets exposure limits per country and per project. The maximum net exposure which may be assumed by MIGA i s $600 mi l l ion in each host country and $180 mi l l ion for each project.

As approved by the Board o f Directors and the Council o f Governors, the maximum aggregate amount o f contingent liabilities that may be assumed by MIGA i s 350 percent o f the sum o f MIGA's unimpaired subscribed capital and i ts retained earnings, and insurance portfolio reserve plus such portion o f the insurance ceded by MIGA through contracts o f reinsurance as the Board o f Directors may determine. Accordingly, at September 30, 2008, the maximum level o f guarantees outstanding (including reinsurance) may not exceed $1 1,5 17,000,000.

Portfolio DiversiJication MIGA aims to diversify i t s guarantee portfolio so as to limit the concentration o f exposure to loss in a host country, region, or sector. The portfolio shares o f the top f ive and top ten largest exposure countries provide an indicator o f concentration risk. The gross and net exposures o f the top five and top ten countries at September 30,2008 and June 30,2008 are as follows:

In thousands of US dollars September 30,2008 June 30,2008

Exposure in Exposure in Exposure in Exposure in Top Five Top Ten Top Five Top Ten Countries Countries Countries Countries

Gross Exposure $ 2,843,166 $ 3,867,814 $ 2,883,310 $ 3,906,457 % o f Total Gross Exposure 44.5 60.5 44.5 60.3

Net Exposure $ 1,128,760 $ 1,758,026 $ 1,131,058 $ 1,757,518 % o f Total Net Exposure 31.8 49.5 31.6 49.1

MIGA Financial Statements 13 Notes to Financial Statements

A regionally diversified portfolio i s desirable for MIGA as an insurer, because correlations o f claims occurrences are typically higher within a region than between regions. When a correlation i s higher, the probability o f simultaneous occurrences o f claims will be higher.

The regional distribution o f MIGA’s portfolio at September 30, 2008 and June 30, 2008 i s as follows:

In thousands o f US dollars September 30,2008

% o f Gross Net Total N e t Exposure Exposure Exposure

Africa $1,006,576 $793,932 22.4 Asia 684,174 466,349 13.1

Latin America & Caribbean 1,330,752 765,145 21.5 Middle East & North Africa 681,333 372,843 10.5 Adjustment for Master Agreement * (129,895) (64,948) (1.8)

Europe & Central Asia 2,8 18,277 1,219,650 34.3

June 30,2008 % o f

Gross Net Total Net Exposure Exposure Exposure

$1,015,491 $798,182 22.3 688,516 470,012 13.1

2,898,430 1,254,045 35.1 1,320,969 747,393 20.9

681,625 373,134 10.4

(129,895) (64,948) (1.8) $6,39 1,2 17 $3,552,97 1 100.0 $6,475,136 $3,577,818 100.0

*Adjustment for master agreement accounts for MIGA’s maximum exposure to loss with a single investor being less than the sum of the maximum aggregate liabilities under the individual contracts.

The sectoral distribution o f MIGA’s portfolio at September 30,2008 and June 30,2008 i s shown in the following table:

September 30,2008 June 30, ZOOS % of Total % of Total

Sector Exposure Exposure Exposure Exposure Exposure Exposure Gross Net Net Gross Net Net

Infiastructure $ 2,605,028 $ 1,530,510 43.1 $ 2,648,422 $ 1,543,358 43.1 Financial 2,382,086 1,115,009 31.4 2,411,17 1 1,117,441 31.2 Tourism, Construction and Services 235,968 210,327 5.9 239,206 213,137 6.0

Oil and Gas 329,j 19 256,910 7.2 329,519 256,910 7.2 Manufacturing 492,300 279,675 7.9 495,385 2 8 2,5 6 0 7.9

Mining 267,779 90,112 2.5 269,069 90,885 2.5 Agribusiness 78,537 70,428 2.0 82,364 73,527 2.1

$ 6.391.217 $ 3.552.971 100.0 $ 6.475.136 $ 3.577.818 100.0

Note E: Claims

Reserve for Claims MIGA’s gross reserve for claims at September 30,2008 amounted to $199,200,000 ($191,000,000- June 30, 2008) and estimated reinsurance recoverables amounted to $3 1,700,000 ($33,600,000- June 30,2008).

An analysis o f the changes to the gross reserve for claims for the three months ended September 30,2008 and for the fiscal year ended June 30,2008 appears below.



I n thousands of US Dollars September 30,2008 June 30,2008

Gross reserve balance $ 191,000 $ 184,200 Less: Estimated reinsurance recoverables 33,600 35,800

Net reserve balance, beginning o f the period 157,400 148,400

Provision for claims-net o f reinsurance 10,100 9,000

Net reserve balance 167,500 157,400 Add: Estimated reinsurance recoverables 3 1,700 33,600 Gross reserve balance, end of the period $ 199,200 $ 191,000

The charge o f $10,100,000 for provision for claims, net o f reinsurance for the three months ended September 30, 2008 compared to a charge o f $9,000,000 for the twelve months ended June 30, 2008 has primarily resulted from the increase in the Specific Reserve provided for an additional project during the quarter ended September 30,2008.

Specific Reserve for Claims The specific reserve for claims i s composed o f reserves for pending claims and reserves for contracts where a claimable event, or events that may give rise to a claimable event, may have occurred, but in relation to which no claim has been filed. The parameters used in calculating the specific reserves, i.e. claims probability, severity and expected recovery, are assessed for each contract placed in the specific reserves on a quarterly basis. At September 30, 2008, the specific reserves amounted to $63,500,000 ($55,200,000 - June 30,2008).

The following table shows how the estimates o f the specific reserves for each reporting period have developed over the past seven years:

I n thousands of US dollars Reporting Period FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09-Q1 Total Estimate o f Cumulative Claims: At end o f reporting period 121,800 9,900 37,800 27,610 1,062 2,800 6,500 One year later 68,600 4,600 23,550 40,380 Two years later 3,000 4,530 8,343 45,900 Three years later 5,650 3,279 6,800 45,600 Four years later 5,775 700 1,300 Five years later 5,700 700 Six years later 5,500 Estimate o f cumulative claims at Sept. 30,2008 7,300 700 1,300 45,600 2,800 6,500 64,200 Cumulative payments (700) (700) Specific reserves at Sept 30,2008 7,300 1,300 45,600 2,800 6,500 63,500

Pending Claims Included in Specific Reserve for Claims at September 30, 2008 are three claims. MIGA’s actual l iabil i ty for these claims has not yet been determined.


On January 24, 2008, MIGA received a claim for a project in Kenya. The amount o f loss was not specified in the claim. The maximum aggregate l iabil i ty under the contract i s $0.5 mill ion. MIGA requested the Guarantee Holder to furnish the required information for it to proceed with claims determination, which MIGA received during the quarter ended September 30, 2008. MIGA i s determining its l iabil i ty for this claim.

On November 29, 2006, MIGA received a claim in the amount o f $54 mi l l ion for expropriation o f a project in Nicaragua. The Guarantee Holder asserted that the project had been expropriated due to i ts inability to obtain approvals for tar i f f adjustments in accordance with the terms o f the concession agreements for distribution o f electricity and other acts o f the Government o f Nicaragua (GoN), which have rendered the project unviable. The GoN and the guarantee investor have been in negotiation o f settlement o f the dispute and the processing o f the claim has been suspended pending the results o f those discussions.

On October 6, 2004, MIGA received claims for expropriation o f projects in Kyrgyz Republic, in the amount o f $0.9 mill ion. A Settlement Agreement has been negotiated, but i s not yet effective due to delays on the part o f the Government o f Kyrgyzstan (GOK). MIGA i s maintaining the provision for this matter until the agreement i s implemented.

Note F-Pension and Other Post retirement Benefits

MIGA, IBRD and IFC participate in a defined benefit Staff Retirement Plan (SRP), a Retired Staff Benefits Plan (RSBP) and a Post-Employment Benefits Plan (PEBP) that cover substantially a l l o f their staff members.

All costs, assets and liabilities associated with these plans are allocated between MIGA, IBRD, and IFC based upon their employees’ respective participation in the plans. In addition, MIGA and IFC reimburse IBRD for their proportionate share o f any contributions made to these plans by IBRD. Contributions to these plans are calculated as a percentage o f salary.

The following table summarizes the benefit costs associated with the SRP, RSBP, and PEBP for MIGA for the three months ended September 30,2008 and September 30,2007:

I n thousands of US dollars Three months ended SRP RSBP PEBP

Sept 30, Sept 30, Sept 30, Sept Sept 30, Sept 30, 2008 2007 2008 30,2007 2008 2007

Benefit Cost Service cost

Interest cost

$ 662 $ 694 $ 130 $ 116 $ 61 $ 53 1,394 1,220 193 161 46 36

Expected return on plan assets (2,524) (2,491) (234) (219) Amortization o f pr ior service cost 22 22 21 21 1 1 Amortization o f unrecognized net loss (gain) 10 (1) 28 10

Ne t periodic pension cost (income) $ (446)$ (555) $ 120 $ 78 $ 136 $100

At September 30, 2008, the estimate o f the amount o f contributions expected to be paid to the SRP and RSBP by MIGA during fiscal year 2009 remained unchanged from that disclosed in the June 30, 2008 financial statements: $627,000 for the SRP and $400,000 for the RSBP.


Notes to Financial Statements Note G: Service and Support Fee

At September 30, 2008 and June 30, 2008, MIGA had the fol lowing payables to (receivables from) i t s affiliated organizations with regard to administrative services and pension and other postretirement benefits.

I n thousands of US dollars September 30,2008 June 30,2008

Pension and Pension and Other Other

Administrative Postretirement Administrative Postretirement Services Benefits Total Services Benefits Total

IBRD $ 1,608 $ (2,021) $ (413) $ 2,217 $ (2,033) $ 184 IFC 2,166 2,166 2,236 2,236

$ 3,714 $ (2,021) $ 1,753 $ 4,453 $ (2,033) $ 2,420

Note H: Fair Value Measurement

Fair value i s defined as the price that would be received to sell a financial asset or paid to transfer a financial l iabil i ty in an orderly transaction between market participants at the measurement date. MIGA uses observable market data, when available, and minimizes the use o f unobservable inputs when determining fair value. The fair values o f MIGA’s cash and non-negotiable, non interest- bearing demand obligations approximate their carrying values. The fair values o f government obligations are based on quoted market prices and the fair values o f asset backed securities are based on pricing models for which market observable inputs are used. The degree to which management judgment i s involved in determining the fair value o f a financial instrument i s dependent upon the availability o f quoted market prices or observable market parameters. For financial instruments that trade actively and have quoted market prices or observable market parameters, there i s minimal subjectivity involved in measuring fair value. Substantially a l l o f MIGA’s financial instruments use either o f the foregoing methodologies to determine fair values that are recorded on i t s financial statements. The fair values are only indicative o f individual financial instrument values and should not be considered an indication o f MIGA’s fair value.

Note I: Risk Management

The responsibility for approving MIGA’s risk management policies lies with the Board o f Directors. The Audit Committee o f the Board deals with risk management issues.

While the Executive Vice President assumes the responsibility for overall risk management with the support o f the senior management team, the responsibility for the design and operational implementation o f the risk management framework lies with the Finance and Risk Management Group with coordination from the Legal Affairs and Claims Group, the Operations Group and the Economics and Policy Group.

Risk Categories

MIGA i s exposed to a variety o f risks and uses risk management programs such as an Economic Capital Framework, and reinsurance arrangements to manage i ts risk. Below i s a description o f risk management systems o f the important risks for MIGA.


0 Insurance Risk Political risk assessment forms an integral part o f MIGA’s underwriting process, and includes the analysis o f both country-related and project-related risks. Insurance risk arises from MIGA’s core business o f issuing investment guarantees. MIGA’s earnings depend upon the extent to which claims experience i s consistent with assumptions used in setting prices for products and establishing technical provisions and liabilities for claims. If actual claims experience o f the Agency i s less favorable than underlying assumptions, then income would be reduced. MIGA monitors claim activities and provisions for pending claims.

In order to prevent excessive risk concentration, MIGA sets exposure limits per country and per project. MIGA uses an Economic Capital model to evaluate concentration risk in MIGA’s guarantee portfolio and to support decision making in pricing new large projects, or new projects in countries with large exposure. I t s reinsurance program, including treaty and facultative reinsurance, helps manage the risk profile o f the portfolio.

0 CreditRisk Counter-party credit risk in MIGA’s portfolio i s the risk that reinsurers would fai l to pay their share o f a claim. MIGA requires that private sector reinsurers, with which it conducts business, be rated by at least two o f the four major rating agencies (Standard & Poor’s, A.M. Best, Moody’s and Fitch), and that the ratings be above a minimum threshold. Also, MIGA has established limits at both the project and portfolio levels, which restrict the amount o f reinsurance.

At present MIGA’s investment portfolio does not have significant credit risk exposure. MIGA currently invests in fixed income securities with high credit quality. The Investment Authorization stipulates that government or agency sponsored debt securities be AA-rated or above, time deposits be A-rated or above, and corporate debt securities be AAA-rated.

Interest Rate Risk Interest rate changes affect the market values o f MIGA’s invested assets. A need to liquidate assets to pay for claims in an unfavorable interest rate environment may reduce investment income. Changes in interest rates will also affect prepayment speeds o f mortgage and asset backed security holdings, which may affect the duration o f the asset portfolio.

Foreign Exchange Rate Risk The majority o f MIGA’s assets and contingent liabilities are denominated in USD, but some guarantee contracts are issued in other currencies such as EUR. To the extent that a claim i s made in a non-USD currency and requires payment in excess o f MIGA’s holdings o f that currency, MIGA may face a foreign exchange related loss in converting to the needed currency to pay for a claim.

0 Operational Risk Operational risk i s intrinsic to financial institutions and i s an important component o f the agency- wide risk management framework. The most important types o f operational risk involve breakdowns in internal controls and corporate governance.

MIGA attempts to mitigate operational risks by maintaining a sound internal control system. Since 2000, MIGA has adopted Committee o f Sponsoring Organizations (C0SO)’s integrated internal control framework, in line with IBRD/IDA and IFC, to regularly evaluate the effectiveness o f internal control system. In addition, MIGA has introduced an operational risk management system to strengthen monitoring o f the operational r i sks and controls in the financial reporting process, and the effectiveness o f key controls in the financial reporting process are


Notes to Financial Statements assessed through the internal quality assurance review process.

MIGA’s internal control system i s regularly evaluated through independent review by the Internal Audit Department (IAD) o f the Wor ld Bank Group.

Legal Risk Legal r isks arise primarily from changes in the legal parameters o f MIGA’s member countries as a result o f legislation or court decisions that may affect MIGA’s activities. There are also legal risks associated with MIGA being involved in legal disputes and arbitration proceedings, especially in the context o f claim resolution or settlement.

MIGA manages these risks by monitoring current and prospective future developments by way o f ongoing discussions with member countries’ representatives on the Board o f Directors and Council o f Governors. MIGA also shares information and analyses with other members o f the Wor ld Bank Group, the IMF and the United Nations. In addition, MIGA actively participates as a member o f the Berne Union in discussions and analyses o f the changes in the operating investment environment in i t s member countries.

Economic Capital and Portfolio Risk Modeling

For portfolio risk management purposes, MIGA currently utilizes an Economic Capital Model, based on the latent factor model o f the Merton framework in credit risk modeling. The Economic Capital (EC) concept i s a widely recognized risk management tool in the banking and insurance industries, defining the amount o f capital an organization needs to hold in order to sustain larger than expected losses with a high degree o f certainty, over a defined time horizon and given the risk exposure and defined risk tolerance. MIGA defines i t s economic capital as the 99.99th percentile o f the aggregate loss distribution over a one year horizon, minus the mean o f the loss distribution, which i s in line with industry practice.

The model helps evaluate concentration risk in the guarantee portfolio and facilitates active, risk- based exposure management by allocating the Economic Capital to particular regions, countries, sectors, covers, or individual contracts, based on their respective risk contribution.

MIGA employs the EC model to manage i ts insurance portfolio risks as the cornerstone o f i t s capital adequacy framework. In addition, it provides the analytical basis for risk-based pricing o f i t s products as we l l as quantification o f the need for prudent technical provisions for claims and liquidity holdings.

i i for committee: thursday, november 13,2008 · november 6,2008 i i for meeting of committee:...

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