For the first time in longer than a decade, insurance companies have moved from fighting off the back foot to a position of strength. The main reason is the disappearance of surplus global insurance and reinsurance capacity that haunted the industry in the form of unrealistically low underwriting margins.
A hardening trend in global insurance markets, already evident in early 2001, was fast-tracked by last year's September 11 terrorist attacks in the US. The World Trade Center disaster was "far worse than the worst-case scenario" built into the global insurance industry's calculations, says Ronald Napier, Lloyd's general representative in SA.
The World Trade Center claims, which some estimates put as high as US75bn, have long-term repercussions as insurers around the world increase the cost of cover to reflect new risk circumstances. This change has also prompted many large insurers and reinsurers to withdraw from or reduce their exposures in certain sectors.
This year will bring the highest premium increases seen in over a decade in SA. Personal line insurance premiums will rise between 10% and 15%, the bulk of which should translate into higher underwriting margins.
Mutual & Federal MD Bruce Campbell expects only about two to five percentage points of the personal line increases to be eroded by higher global reinsurance costs and the impact of a weaker rand on electrical appliance prices and replacement and repair costs of vehicles.
The impact of higher premiums will be felt most acutely by the commercial sector. "Only about 25% of major corporate risk can be underwritten domestically," says Theo Pauw, joint MD of Alexander Forbes Risk Management. With global insurers and reinsurers "picking and choosing new business", SA insurers are positioned to increase premiums by about 50% for the average company.
Hazardous manufacturing businesses face increases of up to 500% this year.
The cheap ride many commercial clients have enjoyed is illustrated by Mutual & Federal (M&F)'s 2001 underwriting results. M&F derived R2,3bn (54%) of total premium income from corporate and commercial business. But of the R89m underwriting surplus, only R31m (35%) came from these two sources. This represented a 1,4% margin compared with levels of 4%-5% regarded as appropriate.
The impact on premium income growth will vary according to an individual insurer's business mix. But overall it is clear that average premium income growth will significantly exceed the long-term average. The industry's gross premium income growth averaged only 9,8%/year between 1989 and 2001.
But even without the tightening of global markets, premium increases were inevitable. This was underscored by the failure in 2001 of Australia's second-largest insurer, HIH Insurance, and Independent Insurance in the UK.
Strengthening the SA industry's underwriting profit base is essential if domestic insurance capacity is not to shrink further, says Campbell. "If we don't look after our side of things, we won't get global reinsurance support."
Without that support, insurance against catastrophe risks or big, single risks such as manufacturing facilities would become more and more difficult.
And SA's underwriting profit record was looking far from healthy. Financial Services Board (FSB) data reveals that between 1990 and 2001 the industry achieved a total underwriting profit in only five of the 12 years. The industry broke even in three years and registered underwriting losses of between 1% and 5% of net premium income in four years. The net result was a negligible 0,25% average net underwriting margin over the period.
The first signs of hardening rates came in 2001. The 29 conventional, or "typical" insurers (these exclude cell captive, medical and other specialist insurers) produced a R199m underwriting profit on net premium income of R14,5bn. This was the first profit since 1997 and a strong turnaround from a combined R171m loss in 2000 and the cumulative R624m three-year loss.
Investment income was long relied on to fill the gap between poor underwriting performance and headline earnings. FSB data shows investment returns averaging just over 11% of net premium income between 1999 and 2001 and delivering 91% of typical insurers' total R2,16bn income in 2001. "Reliance on investment income is not healthy," says the CEO of Munich Reinsurance's African operations, Steffen Gilbert.
SA insurers also need to reduce fraudulent claims. KPMG's 2001 SA insurance industry survey (which forms the basis of Top Companies' insurance tables) notes that an audit by researcher TWIG SA reveals that "up to 35% of claims in SA contain at least a fraudulent element". Comparative levels in the UK are 5%, in the US 8%, and in Australia 15%.
Santam executive director of operations Hannes Wilken estimates that fraud occurs in 30%-35% of vehicle insurance claims. Better surveillance of repair facilities and tow truck operators, a new Fraud Line and shared industry claim statistics are expected to reduce fraud substantially.
Last year's results from SA's typical insurers reflect early 2001's modest first phase of hardening rates. Better management of risk and tighter cost controls also contributed. Claims fell from 72% to 70% of earned premiums and management and commission expenses fell from 29% to 28% of net written premium income. But though SA's largest insurers, M&F and Santam, produced underwriting profits, neither was earth-shattering.
M&F's R89m underwriting profit was by way of recovery from 2000's tiny R2m profit and 1999's R53m loss. But it represented a margin of only 2,1% on net premium income, which increased 37% to R4,31bn. Santam's R97m underwriting profit was 4% down on 2000's R101m and produced a 1,6% margin on a 35% higher net premium income of R6,21bn.
Most of M&F's premium income growth in 2001 came from the inclusion of its acquisition CGU Insurance for a full year (2000: three months).
Santam benefited from its acquisition of Guardian National, which had been consolidated for only eight months in 2000. But Santam's 24% organic premium income growth was impressive and reflected "big market share gains", says CEO Johan van Zyl.
M&F's and Santam's total R10,5bn net premium income in 2001 represented a combined share of about 45% of the total insurance market. This is up from a combined 37% in 1999 and 29% in 1989 and highlights consolidation of the industry, a trend that is expected to continue.
Over the past decade, 12 household-name insurance companies have disappeared and the number of listed typical insurers has fallen from nine to three. This was primarily the result of mergers and acquisitions, the most recent being Fedsure General's acquisition by privately controlled Hollard.
Fedgen will boost Hollard's total premiums by 50% to about R1,5bn. This propels Hollard into fourth market share position behind the smallest of the three listed typical insurers, SA Eagle with net premium income of R2,38bn in 2001.
"Consolidation in the industry is not necessarily bad," says Gilbert. Though Santam's and M&F's market dominance has helped stabilise premium rates, there are sufficient smaller players to ensure competition.
Tending to confirm Gilbert's view on competition, other quoted companies have recently entered the industry or increased their participation. One notable newcomer in 2001 was Alexander Forbes. This, says KPMG, poses the question of whether brokers should own insurance companies and whether more will follow.
Stanbic Insurance entered the personal lines insurance market in 2001 and took over the underwriting of all 40 000 Stansure motor and household policies from M&F.
But for the average investor seeking insurance exposure, M&F, Santam and SA Eagle are their primary points of entry.
Santam seems likely to benefit most from higher premiums this year, having acquired commercial business-focused Guardian National in December 1999. The Santam and Guardian businesses have so far been operated as separate entities. Van Zyl expects big cost savings from the integration that is now to begin.
Santam's solvency margin, the ratio of net assets to net premium income, is about 71%. A solvency margin of about 50% would be more appropriate, says Van Zyl. It leaves Santam with about R1bn surplus cash.
M&F and SA Eagle have undertaken large capital repayments in the form of special dividends over the past two years to reduce too-high solvency margins. Santam will not follow this lead, says Van Zyl. Surplus cash is earmarked for further acquisitions and it's likely there will be at least one in Europe this year.
M&F is unlikely to match what should be a leap in Santam's earnings this year, but it is well positioned for strong growth. Campbell expects to see underwriting margins moving up to about 4%-5%. Potentially this could increase M&F's underwriting profit to between R200m and R240m in 2002 unless there are abnormal weather-related claims. As M&F's solvency margin is still a high 70%, the potential for further special dividends should not be excluded.
Despite strong premium income growth of 27% in 2001, high motor claims resulted in SA Eagle producing an R8,7m underwriting loss . Higher premiums should rectify this .
Overall, things are looking up for insurers as tight global market conditions are likely to sustain premiums at economic levels for many years. In the longer term, the challenge of expanding the private client base into the lower-income sector remains.