Ruan van Rensburg, Fellow of the Institute of Actuaries and Gautham Subramanian, Associate of the Society of Actuaries, Lux Actuaries & Consultants Bahrain, aim to provide an outline of the reserving aspects of the FCR for the understanding of the management. 

What is a FCR? 

The Financial Condition Report (FCR) is a report addressing the current and future financial position of a company. Broadly speaking, from a regulatory perspective, this report quantifies if a company has sufficient assets to pay its liabilities currently and in the future. In other words, the FCR quantifies the solvency position of a company. 

Factors affecting Solvency: 

Solvency is influenced by a range of factors including liabilities (reserving adequacy), assets (capital adequacy and matching), pricing adequacy and reinsurance adequacy. 

Many of these elements are current estimates of future payments and values and hence there is a natural uncertainty in the accuracy of these estimates. However, if these aspects including the uncertainty itself are quantified and explained in a consistent manner, then not only the regulator, but also the senior management, the Board and other stakeholders would find value in this internally consistent view of the financial position of a company in terms of profitability. 

The FCR gives a holistic view of the key aspects of a company which it could consider in its strategic planning. 

Globally, actuaries have been entrusted with the responsibility to prepare and sign financial condition studies. This trust is based on the actuary’s years of study and training and the vigorous codes of conduct which the professional bodies subject us to. 

The specifics and the extent to which an FCR is comprehensive can be summarized by stating that it addresses all the key financial aspects of an insurance company and is usually driven by the regulatory bodies of each specific country or region. 

The Qatar Financial Centre Regulatory Authority (QFCRA) and the Qatar Central Bank (QCB) have well-defined regulations, which are to be adhered to by approved actuaries to assess and report the financial condition of general insurance companies. Arguably, the QFCRA and the QCB have some of the most comprehensive requirements for an FCR in the region. 

Requisites for the QFCRA: 

The QFCRA’s requisites cover a broad range of points which include reserving adequacy, pricing adequacy, reinsurance adequacy, capital adequacy, asset-liability management, investment strategy and risk management. 

An important requirement of the QFCRA is that it requires the approved actuary to not just comment on the financial condition of the Qatari branch of an insurance company (in case the concerned insurance company is not head quartered in the QFC) but also comment on the financial condition of the whole company. 

Ruan van Rensburg, Fellow of the Institute of Actuaries, Lux Actuaries & Consultants Bahrain 

1.1 Reserving 

Setting appropriate reserves is fundamental to the financial wellbeing of an insurance company to ensure it is able to meet the policyholders’ claims obligations. 

In the following paragraphs, we discuss the minimum standards and requirements that an approved actuary should meet considering both the requirements mandated by the QFCRA and the professional standards set by the various professional actuarial bodies internationally. 

Gautham Subramanian, Associate of the Society of Actuaries, Lux Actuaries & Consultants Bahrain 

1.1.1 Data 

Ideally, data from as far back as possible should be used. The approved actuary may under certain instances choose to analyse only the most recent 3-5 years data depending on the recent market developments. However, if the company is of a relatively larger size (in terms of premium/exposure/claims) and has been operating in the Qatari market for many years, then it should be looking at extending the data period, ideally to more than five years so that trends can be understood and allowed for. Even if only the most recent years are considered, the actuary should consider the potential for Incurred But Not Reported (IBNR) in earlier years. 

Similarly, use of Premium data from as far back as possible for Earned Premium and exposure based reserving purposes is ideal. Furthermore, with quality premium data, it may be clear that a Future Premium ‘reserve’ can be allowed for in the financial statements. Future Premium is an asset (viewed as negative reserve) and for a large company, this can be substantial.

1.1.2 Reconciliation 

Almost all of the actuarial work and recommendations are based on data analyses. For statutory reporting, it is a professional and statutory requirement that the actuary has confidence that the data used for the analyses is accurate, reasonable and complete – or can explain inconsistencies. 

One way to ensure this is to perform data reconciliation with the audited financial statements. The data reconciliation should be for written premiums, earned and unearned premiums, paid claims, outstanding claims, salvage recoveries and commission paid and received – all gross and net of reinsurance recoveries. 

Having done the reconciliation, the actuary should present the results in the FCR and comment on the reasons for differences. This can significantly improve the ease of reading and contributing to the credibility of the FCR. 

The actuary could also perform other basic reasonability checks such as end date of a policy should be after the start date, the loss date of a claim should be before the paid date for a claim and so on. Such reasonability checks give confidence in the results to the reader of the FCR report. 

1.1.3 Basis 

The FCR must state explicitly the basis of the reserving work and other estimates. For example, the FCR should clearly mention whether the estimates were Central, Prudent, or Optimistic. The reserving work should state the basis of the reserves. Further, in the State of Qatar, estimation should be at least Central. 

Central Estimate: 

A Central Estimate is roughly an equal chance of over or underestimation of reserves given eventual ultimate claims outcome. All selections, judgements and deviations from the basis should be justified in the light of the Central Estimate basis or from the basis used by the approved actuary. 

1.1.4 Methodologies and Ultimate Claims Selections 

The FCR will be more robust and comprehensive by disclosing the following results from various modelling approaches in the Appendices, for both Gross and Net of reinsurance and justifying each final selection in terms of the Basis used: 

✑ Ultimate claims based on the Basic Chain Ladder (BCL) technique for Paid and Incurred claims, two sets of results minimum for Central Estimate. More results can be shown for Prudent and Optimistic assumptions. 

✑ The Bornhuetter-Ferguson (BF) method for Paid and Incurred, with the actuary’s and the Management’s Central Estimate assumptions; four sets of results minimum, varying for Optimistic and Prudent estimation outputs. 

The selection of the final Ultimate claims based on these outcomes should deliver professionally considered results. Professional judgement is crucial for the most recent year for each line of business, since this is where (most likely) the material uncertainty exists. 

To the experienced actuary who specialises in general insurance (including final specialism Fellowship examination of General Insurance), there is a wealth of information in the development of claims and accurate estimates are definitely possible. 

1.1.5 Triangles 

While these are not specified by the QFCRA, we suggest the following for better granularity and prudence purpose (whether or not resulting in higher or lower reserve amount); (i) to construct both Paid and Outstanding data triangles so that Incurred triangles can be constructed, (ii) to create annual origin and quarterly development triangles for all lines of business, (iii) to construct Quarterly origin and Quarterly development triangles for Medical and Motor lines so that seasonality can be split 

out, (iv) not to use annual origin and annual development as seasonal patterns can be buried and the ‘definition’ may become limited, and (v) not to group quarterly origin together since this mixes seasonality – group only the same origin quarters together (refer iii). 

One key point that we strongly recommend (whether for BCL or BF method) is to model the Incurred triangles and rely on those results rather than relying on Paid modelling, which is prone to under-estimating reserves – unless the market and business is highly mature, predictable and stable. The Incurred triangles contain more information; for example, it includes the (averaged) opinions of claims assessors as to the future development of claims. This is certainly valuable information. 

Once the rote application of BCL and BF models are done, the approved actuary will be able to allow for management opinion and recent changes in the development patterns in setting and selecting Central Estimated Ultimate claims and corresponding IBNR reserves, for each accident year. 

1.1.6 Large Claims and Excess of Loss (XL) recoveries 

It is ideal to obtain a list of all actual and expected XL recoveries since as far back as possible. Then one would need to consider possible deterioration on these large claims and the impact on net ultimate claims. Gross deteriorations might have no impact on net since the net claims might already exceed XL attachment points and hence deteriorations are fully for the XL reinsurer’s account. 

The ability of reinsurers to perform is separately considered and confirmed in the FCR. The FCR also considers possible gaps in reinsurance cover. 

1.2 Historic Ultimate Claims Selections 

An illustration of how prior years’ Ultimate Claims selections and hence IBNR selections change over time must be disclosed in the FCR. 

This clearly allows the management to capture the result of back-testing of judgements made by the management and the actuary on historical reserves and is a tremendously useful tool in understanding the business. It also highlights any changes in the data, movement of large amounts of reserves and other anomalies that typically need to be explained in the disclosure process. 

The FCR should provide a triangle of ultimate claims for each line of business, gross and net, by accident year and how the ultimate claims developed over time. For example, Medical for accident year 2011 will have an ultimate claims estimated at end 2011, 2012, 2013 and 2014 FCR. 

Differences between these ultimate claims for each pair of years show changes and movement in estimates and historical development of ultimate claims assessment. 

Large differences are usually difficult to explain. We have found that this back-testing forces actuaries to consider their selections of ultimate claims with much more care and consideration. It not only considers the ultimate selection at that time, but also takes into consideration how their estimate will be judged (possibly by others) in the future. 

Conclusion 

To summarise, we have addressed one of the key aspects of the FCR – the calculation of claims reserves. 

A thorough understanding of claims reserves results in healthy financial condition through adequate reserves, properly priced insurance products, matched assets, considered risk cession and professional capital and risk/return management. 

All stakeholders, i.e. policyholders, employees, management, shareholders and the regulator benefit by using the FCR.