reinsurance ppt

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Introduction to Introduction to Reinsurance Reinsurance Presented by: Paul J. McGee, Mike Presented by: Paul J. McGee, Mike Cass & Tom Pavelko Cass & Tom Pavelko

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Page 1: REINSURANCE PPT

Introduction to ReinsuranceIntroduction to Reinsurance

Presented by: Paul J. McGee, Mike Cass Presented by: Paul J. McGee, Mike Cass & Tom Pavelko& Tom Pavelko

Page 2: REINSURANCE PPT

The Reinsurance The Reinsurance MarketplaceMarketplace

WWhere to Go!!here to Go!!

Professional Reinsurance Companies

Primary Insurance Companies With Reinsurance Departments

Specialty Companies

Page 3: REINSURANCE PPT

Distribution SystemDistribution System

How To Get There!How To Get There!

The Direct MarketThe Direct Market

The Intermediary MarketThe Intermediary Market

Page 4: REINSURANCE PPT

Buyer’s Decision-Making Buyer’s Decision-Making ProcessProcess

The Whys of Choice!The Whys of Choice!

Advantages and Advantages and DisadvantagesDisadvantages

Page 5: REINSURANCE PPT

DefinitionsDefinitions

What Do These Words Mean?What Do These Words Mean?

Page 6: REINSURANCE PPT

The language of The language of ReinsuranceReinsurance

Reinsurance :Reinsurance :A form of insurance whereby one insurer A form of insurance whereby one insurer (the reinsurer) indemnifies another insurer (the reinsurer) indemnifies another insurer (the reinsured) for losses under insurance (the reinsured) for losses under insurance policies issued by the reinsured to the policies issued by the reinsured to the public.public.

Ceding CompanyCeding Company::A Primary Company, Direct Company, all A Primary Company, Direct Company, all known as the “Reinsured”known as the “Reinsured”

ReinsurerReinsurer: The Company to whom the risk : The Company to whom the risk is transferredis transferred

Page 7: REINSURANCE PPT

More of The Language of More of The Language of ReinsuranceReinsurance

RetrocessionRetrocession: Reinsurance of Reinsurance: Reinsurance of Reinsurance

Retrocessionaire and RetrocedentRetrocessionaire and Retrocedent::The parties to a RetrocessionThe parties to a Retrocession

TreatyTreaty: An automatic contract: An automatic contract

FacultativeFacultative: Risk reinsurance: Risk reinsurance

Page 8: REINSURANCE PPT

And,More of the Language And,More of the Language of Reinsuranceof Reinsurance

Pro Rata Reinsurance: A term describing a form of reinsurance whereby the reinsurer shares a pre-determined, proportional share of the premiums and losses of the reinsured.

Excess of Loss: A form of reinsurance whereby the insurer retains all losses up to a predetermined amount, and is then indemnified beyond that amount, to a predetermined amount, by reinsurers. Also known as “non-proportional”

Retention: The amount of risk not being reinsured

Page 9: REINSURANCE PPT

Function of Reinsurance Function of Reinsurance

A Need FulfilledA Need Fulfilled

FinancialFinancial Stabilize ResultsStabilize Results CapacityCapacity Protection From the Almost Protection From the Almost

ImmeasurableImmeasurable Other, More Obscure NeedsOther, More Obscure Needs

Page 10: REINSURANCE PPT

Method of ReinsuranceMethod of Reinsurance

Treaty - FacultativeTreaty - Facultative

Two DisciplinesTwo DisciplinesWithWith

Common GoalsCommon Goals

Page 11: REINSURANCE PPT

TREATYTREATY

A Block or Class of A Block or Class of BusinessBusiness

Usually ObligatoryUsually Obligatory Reinsurer Not Reinsurer Not

Involved In Risk Involved In Risk DecisionsDecisions

Long Term Long Term RelationshipRelationship

FACULTATIVEFACULTATIVE

One Risk At a One Risk At a TimeTime

Underwriter Can Underwriter Can Accept or RejectAccept or Reject

Risk UnderwritingRisk Underwriting Short Run Short Run

(Usually one Year)(Usually one Year)

Key DistinctionsKey Distinctions

Page 12: REINSURANCE PPT

Why Treaty?Why Treaty?When Facultative?When Facultative?

Treaty ExclusionsTreaty Exclusions

Protect TreatyProtect Treaty

CapacityCapacity

Page 13: REINSURANCE PPT

Forms of ReinsuranceForms of Reinsurance

Pro-RataPro-RataQuota Share and Surplus ShareQuota Share and Surplus Share

Excess of LossExcess of LossPer Risk, Per Occurrence, AggregatePer Risk, Per Occurrence, Aggregate

Page 14: REINSURANCE PPT

Pro Rata ReinsurancePro Rata Reinsurance

AA”Partnership” through SHARING”Partnership” through SHARING

Page 15: REINSURANCE PPT

Quota Share Quota Share

KEY TERMS AND CONDITIONSKEY TERMS AND CONDITIONS

Page 16: REINSURANCE PPT

Quota ShareQuota Share

75%Cession

25%Retention

$0$0 $1 M$1 M

Page 17: REINSURANCE PPT

Proper Identification of Proper Identification of Reinsured PartiesReinsured Parties

All Companies in a GroupAll Companies in a Group A Single CompanyA Single Company Only Named Companies in a GroupOnly Named Companies in a Group MGA-produced business for a MGA-produced business for a

CompanyCompany Includes Quota Share ReinsurersIncludes Quota Share Reinsurers

Page 18: REINSURANCE PPT

Interest and Liabilities Interest and Liabilities ContractContract

“ “ Such participation shall be several and not joint with Such participation shall be several and not joint with

the participation of other subscribing reinsurers and the participation of other subscribing reinsurers and

the Subscribing Reinsurer shall under no the Subscribing Reinsurer shall under no

circumstances participate in the interests, (if any) of circumstances participate in the interests, (if any) of

the other reinsurers in said instrument” the other reinsurers in said instrument”

Page 19: REINSURANCE PPT

ARTICLE 1 ARTICLE 1 Business Covered:Business Covered:

“A. The Company shall cede to the Reinsurer and the

Reinsurer shall accept from the Company ___% quota share

participation of the net retained insurance liability of the

Company on each risk insured under policies in force at ____,

Standard Time, _____, 20__ and new and renewal policies

becoming effective after (or on and after) said date, as

respects losses occurring after (or on and after) ___,

Standard Time _____, 20__, covering the Lines of Business

set forth below, except as excluded in the Exclusion Article,

subject to the limits set forth in the Limits of Cover Article.”

Page 20: REINSURANCE PPT

ARTICLE IIARTICLE IITerm and CancellationTerm and Cancellation

“A. This Agreement will apply to losses occurring

after (or on and after) ___ ___ Local Time _____, 20

__ as respects policies in force at said date and new

and renewal policies becoming effective after (or

on and after) said date and will be of unlimited

duration. This Agreement may be terminated as of

_____ any , of any year by either the Company or

the Reinsurer giving not less than __ days prior

written notice by Certified Mail to the other party.”

Page 21: REINSURANCE PPT

ARTICLE IVARTICLE IVExclusionsExclusions

The following risks and kinds of insurance are The following risks and kinds of insurance are excluded from coverage under this Agreement, and excluded from coverage under this Agreement, and no loss or losses thereon shall be recoverable no loss or losses thereon shall be recoverable hereunder:hereunder:

1. All lines of Business not specifically covered 1. All lines of Business not specifically covered hereunderhereunder

2. Reinsurance assumed, but not to exclude local 2. Reinsurance assumed, but not to exclude local Agency reinsurance Agency reinsurance

3. Pools, Associations and Syndicates business as 3. Pools, Associations and Syndicates business as per POOLS, ASSOCIATIONS AND SYNDICATES per POOLS, ASSOCIATIONS AND SYNDICATES EXCLUSION CLAUSE attachedEXCLUSION CLAUSE attached

4. Flood and Earthquake when written as such.4. Flood and Earthquake when written as such.5. Hail on growing or standing crops or timber.5. Hail on growing or standing crops or timber.6. Nuclear Incident …..6. Nuclear Incident …..7. War Risks ….. Etc. 7. War Risks ….. Etc.

Page 22: REINSURANCE PPT

ARTICLE IXARTICLE IXReinsurance PremiumReinsurance Premium

A. The Company shall pay promptly to the Reinsurer A. The Company shall pay promptly to the Reinsurer

_____% of the Company’s unearned premium on _____% of the Company’s unearned premium on

its net retained insurance liability in force at its net retained insurance liability in force at

_____, Standard Time, _____, 20__ on the business _____, Standard Time, _____, 20__ on the business

covered hereunder.covered hereunder.

Page 23: REINSURANCE PPT

ARTICLE XVARTICLE XVAccess to RecordsAccess to Records

“ “The Company shall place at the disposal of the The Company shall place at the disposal of the

Reinsurer at all reasonable times, and the Reinsurer at all reasonable times, and the

Reinsurer shall have the right to inspect, through Reinsurer shall have the right to inspect, through

its authorized representatives, all books, records its authorized representatives, all books, records

and papers of the Company in connection with and papers of the Company in connection with

the reinsurance hereunder or the subject matter the reinsurance hereunder or the subject matter

thereof.”thereof.”

Page 24: REINSURANCE PPT

ARTICLE XXIIIARTICLE XXIIIArbitrationArbitration

““A. Should an irreconcilable difference of opinion A. Should an irreconcilable difference of opinion

arise between the parties to this Agreement, arise between the parties to this Agreement,

whether before or after termination, as to the whether before or after termination, as to the

interpretation of this Agreement or transaction interpretation of this Agreement or transaction

with respect to this Agreement, such difference with respect to this Agreement, such difference

will be submitted to arbitration upon the written will be submitted to arbitration upon the written

request of one of the parties. One arbiter to be request of one of the parties. One arbiter to be

chosen by the Company and one by the Reinsurer. chosen by the Company and one by the Reinsurer.

An umpire will be chosen by the two arbiters An umpire will be chosen by the two arbiters

before they enter into arbitration…… etc.”before they enter into arbitration…… etc.”

Page 25: REINSURANCE PPT

ARTICLE XXIVARTICLE XXIVIntermediary ClauseIntermediary Clause

“…Reinsurance Intermediaries, … New York, New York, 10038 is hereby recognized as the Intermediary negotiating this Agreement for all business hereunder. All communications (……..) relating thereto will be transmitted to the Company or the Reinsurer through the office of…..Reinsurance Intermediaries. Payment by the Company to the Intermediary will be deemed to constitute payment to the Reinsurer. Payments by the Reinsurer to the Intermediary will be deemed only to constitute payment to the company to the extent that such payments are actually received by the Company.”

Page 26: REINSURANCE PPT

Pricing of Prorata Pricing of Prorata ReinsuranceReinsurance

Commission = PriceCommission = Price

Alternatives – Flat, Profit and Alternatives – Flat, Profit and Sliding ScaleSliding Scale

Page 27: REINSURANCE PPT

ARTICLE XIARTICLE XICommissionCommission

A. The Reinsurer shall make a commission allowance of % to the Company on the premiums ceded under this Agreement. On all return premiums the Company shall return to the Reinsurer the commission allowance of %.

B. The commission allowance which the reinsurer makes to the Company on the business transacted under this Agreement includes provision for all taxes, assessments and any other expenses whatsoever, except loss adjustment expenses.

Page 28: REINSURANCE PPT

ARTICLE XIIARTICLE XIIContingent CommissionContingent Commission

A. The reinsurer shall make a contingent commission allowance of % to the Company on the net profits accruing to the Reinsurer under this Agreement.

B. The net profits under this Agreement shall be calculated in accordance with the following formula:

INCOME

1. Premiums earned ….

OUTGO

2. Losses Incurred …

3. Commission allowance…

etc.

Page 29: REINSURANCE PPT

Profit CommissionProfit Commission

ExampleExample::(a) Ceded Premiums(a) Ceded Premiums $1,000,000$1,000,000(b) Commissions (25%)(b) Commissions (25%) 250,000 250,000(c) Incurred Losses(c) Incurred Losses 400,000 400,000(d) Reinsurer Margin(d) Reinsurer Margin 50,000 50,000

(e) (e) Net ProfitNet Profit $ 300,000 $ 300,000

(f) Profit Commission (25%) 75,000(f) Profit Commission (25%) 75,000(g) Original Commission (b) 250,000(g) Original Commission (b) 250,000(h) (h) Total CommissionTotal Commission 325,000 325,000 being 32.5%being 32.5% ($325,000/$1,000,000) ($325,000/$1,000,000)

FormulaFormula: : 25% Ceding Commission subject to: 25% Ceding Commission subject to: 25% Profit Commission after: Incurred 25% Profit Commission after: Incurred

Losses, Losses, Expenses and a 5% Reinsurer Margin Expenses and a 5% Reinsurer Margin

Page 30: REINSURANCE PPT

Sliding Scale Commission Sliding Scale Commission ArrangementArrangement

Provisional Commission 30% at a 65% Loss Ratio

Sliding Upwards ½% for Each 1% Improvement in

Loss Ratio, To Maximum Commission of 40%

Sliding Downwards 1% for Each 1% Deterioration

in Loss Ratio, To Minimum Commission of 25%

Page 31: REINSURANCE PPT

Sliding Scale (cont.)Sliding Scale (cont.)

Therefore;

If Loss Ratio develops at 70%, Company returns 5% points of commission to Reinsurer. Commission becomes 25% (1:1)

If Loss Ratio develops at 60%, Reinsurer pays Company an additional 2.5% points of Commission. Commission becomes 32.5%. (1/2:1)

Page 32: REINSURANCE PPT

Surplus Share AgreementSurplus Share Agreement

Company selects amount of liability retained on

each risk.

Company transfers “surplus” amount in multiples

of net, known as “lines”.

Retention and amount ceded subject to treaty

terms.

Page 33: REINSURANCE PPT

Surplus ShareSurplus Share

500K

1M

2M

4M

Limit

0

Policy 1 - $4M

Policy 2 - $2M

Policy 3 - $1M

$2M Ceded

to Surplus Share(50%)

NET($2M)

$1.5M Ceded

to Surplus Share(75%)

NET($500K)

$0Ceded to

Surplus Share

NET($1M)

Assume 3 Line Surplus, Min. Net 500K, $2M Limit to Treaty

Page 34: REINSURANCE PPT

Quota Quota ShareShare

Percentage ceded same on every risk

Obligatory

Applies to all business subject to Treaty

Percentage ceded varies at risk level

Obligatory and non-obligatory

Used mainly for larger

risks

Surplus Surplus ShareShare

Page 35: REINSURANCE PPT

EXCESS OF LOSSEXCESS OF LOSS

“Building Blocks”“Building Blocks”

Page 36: REINSURANCE PPT

THIRD LAYERTHIRD LAYER

FIRST LAYERFIRST LAYER

RETENTIONRETENTION

FOURTH LAYERFOURTH LAYER

SECOND LAYERSECOND LAYER

EXCESS OF LOSSEXCESS OF LOSS

Page 37: REINSURANCE PPT

CategoriesCategories

Per RiskPer Risk

Per OccurrencePer Occurrence

Aggregate (aka Stop Loss and Loss Ratio)Aggregate (aka Stop Loss and Loss Ratio)

Page 38: REINSURANCE PPT

An Example of Excess of An Example of Excess of Loss ReinsuranceLoss Reinsurance

TREATY LIMIT: TREATY LIMIT: $150,000 $150,000

EXCESS OF: EXCESS OF: $ 50,000 (Retention)$ 50,000 (Retention)

Loss A: Loss A: $45,000 $45,000 Loss B: Loss B: $100,000 $100,000

ReinsurerReinsurer

Pays: Pays: -o- -o- $50,000 $50,000

Page 39: REINSURANCE PPT

Pricing Excess of LossPricing Excess of Loss

A rate applied to a subject-premium base.A rate applied to a subject-premium base.

Normally, Deposit and Minimum premiums Normally, Deposit and Minimum premiums apply.apply.

Page 40: REINSURANCE PPT

FlatFlat

Formula a/k/a “Burning Cost”Formula a/k/a “Burning Cost”

Per Risk Pricing Per Risk Pricing AlternativesAlternatives

Page 41: REINSURANCE PPT

Formula Method for Excess Formula Method for Excess of Loss Ratingof Loss Rating

EXAMPLE:EXAMPLE:

Provisional Rate: 9.00%Provisional Rate: 9.00%

Minimum Rate: 6.00%Minimum Rate: 6.00%

Maximum Rate: 12.00% Maximum Rate: 12.00%

Loading 100/75 (1.333%)Loading 100/75 (1.333%)

Page 42: REINSURANCE PPT

ResultResult YearYear Premium Premium XS Losses XS Losses Loss CostLoss Cost LoadingLoading

RateRate2000 $10,000,000 $750,000 7.5% 1.333 2000 $10,000,000 $750,000 7.5% 1.333

10.0010.00

2001 $11,000,000 $550,000 5.0% 1.333 2001 $11,000,000 $550,000 5.0% 1.333 6.666.66

2002 2002 $12,000,000$12,000,000 $1,020,000$1,020,000 8.5% 1.333 8.5% 1.333 11.3311.33

Total $33,000,000 $2,320,000 7.03% 1.333 Total $33,000,000 $2,320,000 7.03% 1.333 9.37 9.37

FINAL RATE X PREMIUM = REINSURANCE PREMIUMFINAL RATE X PREMIUM = REINSURANCE PREMIUM

2000 10.00 $10,000,000 $1,000,0002000 10.00 $10,000,000 $1,000,0002001 6.66 $11,000,000 $ 732,6002001 6.66 $11,000,000 $ 732,6002002 11.33 $12,000,000 $1,359,6002002 11.33 $12,000,000 $1,359,600

CAN BE A ONE YR. PLAN OR IN 3-5 YEAR BLOCK CAN BE A ONE YR. PLAN OR IN 3-5 YEAR BLOCK

Page 43: REINSURANCE PPT

Important Points to be Important Points to be ConsideredConsidered

Treatment of Loss Adjustment Treatment of Loss Adjustment ExpensesExpenses

Excess Policy Limits (XPL)Excess Policy Limits (XPL)

Extra Contractual Obligations (ECO)Extra Contractual Obligations (ECO)

Page 44: REINSURANCE PPT

Catastrophe ReinsuranceCatastrophe Reinsurance

Large Limit and RetentionLarge Limit and Retention

Type of “event” limited by hours clauseType of “event” limited by hours clause

Per Occurrence coverage rather than Per RiskPer Occurrence coverage rather than Per Risk

The Reinstatement issueThe Reinstatement issue

Page 45: REINSURANCE PPT

Catastrophe ReinsuranceCatastrophe Reinsurance

Pricing ConceptsPricing Concepts

Pay-BackPay-BackRate-On-LineRate-On-Line

Page 46: REINSURANCE PPT

A Treaty Reinsurance A Treaty Reinsurance ProgramProgramPropertyProperty

Net RetentionPer Occurrence

$4M xs $2M1st Layer Cat

Excess of Loss

$4M xs $6M2nd Layer CatExcess of Loss

$0

$2M

$6M

$10M

Per Risk Property Catastrophe

$2M

500k Net

$400K excess of $100K

1st Excess of Loss

Per Risk SURPLUS SHARE

3 Lines$1,500,000 Limit

$0

$100k

75% Quota Share

(Net $25K max.)

$500K

RISK SIZE

Page 47: REINSURANCE PPT

Balance Sheet at Dec. 31, Balance Sheet at Dec. 31, Before ReinsuranceBefore Reinsurance

ASSETSASSETSCash and other assetsCash and other assets

$25,000,000$25,000,000Total AssetsTotal Assets $25,000,000$25,000,000

LIABILITIESLIABILITIESUnearned PremiumsUnearned Premiums

$10,000,000$10,000,000Loss and Expense ReserveLoss and Expense Reserve

$$10,000,00010,000,000

Total LiabilitiesTotal Liabilities $20,000,000$20,000,000

Policyholders SurplusPolicyholders Surplus $ 5,000,000$ 5,000,000

Page 48: REINSURANCE PPT

Balance Sheet on Jan. 1, Balance Sheet on Jan. 1, After Reinsurance After Reinsurance ((Assume Company has arranged for a 75% Assume Company has arranged for a 75% quota share treaty on in-force business, quota share treaty on in-force business,

receiving a 30% ceding commission.)receiving a 30% ceding commission.)

ASSETSASSETSCash and Other Assets Cash and Other Assets $19,750,000$19,750,000Total AssetsTotal Assets $19,750,000$19,750,000(75% of $10,000,000 less 30% comm. Paid from assets)(75% of $10,000,000 less 30% comm. Paid from assets)

LIABILITIESLIABILITIESUnearned PremiumsUnearned Premiums $ 2,500,000$ 2,500,000Loss and Expense ReserveLoss and Expense Reserve $10,000,000$10,000,000Total LiabilitiesTotal Liabilities $12,500,000 $12,500,000 Policyholders SurplusPolicyholders Surplus $ 7,250,000$ 7,250,000

(Increase represents 75% of $10,000,000 less 30% (Increase represents 75% of $10,000,000 less 30% commission)commission)

Page 49: REINSURANCE PPT

Thank You Thank You

For Your Attention!For Your Attention!