Insurers, IFRS 17, COVID-19 and regulatory challenges

Whilst the COVID-19 pandemic has posed many challenges to insurers, actuaries and reinsurers, public policy demands that insurers must plan ahead of how to meet future contingencies. Medical/health insurance, business disruption losses, etc. will assume greater importance in the months and years to come – Pic by Shehan Gunasekara 

By Dr. Dayanath Jayasuriya

It has always been a complex task to measure the element of risk and financial stability in insurance policies. The Global Financial Stability Report of 2017 neatly summarised this complexity:

“Investors continue to have difficulties adequately assessing risk in the sector because regulatory regimes are evolving and disclosure is inadequate. For example, discount rates used to value future liabilities differ between insurers and are often higher than market risk-free rates, resulting in an underestimation of liabilities. Regulatory gaps make it hard to compare risks in insurers across countries. Options embedded in some insurance contracts are also hard to value, making it difficult to assess balance sheet risks.”1 

Whilst attempts are underway to develop more sophisticated assessment methodology, the COVID-19 outbreak has brought in its wake new challenges and complexities. In the UK, the Financial Reporting Council has formulated broad guidelines to help companies to assess and disclose the impact of COVID-19:

“The impact of COVID 19 on many companies is significant. It is therefore important to explain the impacts to users in a clear way using appropriate performance measures and to provide context and comparatives where relevant. Companies should try to link the actions they have taken in response to the pandemic and associated challenges, the external influences and drivers of their business and their plans and strategies for the future to their performance measures.

There are several ways to illustrate how companies’ profits, key performance indicators and revenue drivers have been impacted.

Good approaches include providing: 

•  comparatives;
• information at different ‘stages’ of the pandemic;
• percentage changes and trends;
• actions taken, that could influence performance, during the period; and
•  clearly labelled and relevant graphs.

Performance metrics set out five principles for their disclosure. Performance metrics should be: aligned to strategy; transparent; in context; reliable and consistent. Companies should take this into account when describing effects on their performance metrics and not produce misleading or inconsistent measures.”2

A recent study by McKenzie’s highlighted some more of the challenges: 

“Much remains to be done globally to respond to and recover from the COVID-19 pandemic, from supporting victims and families to fully understanding the pandemic’s implications for business and employment. Investors will need to evaluate their portfolios and assess where the greatest risks lie and where they can deploy capital that will help the insurance ecosystem evolve and better serve all of its participants.”3

In various countries different types of insurance companies and products have come under unprecedented and unexpected stress depending on the trajectory of the pandemics. In October 2020 the Financial Reporting Council addressed the issues of ‘Going concern, risk and viability: COVID-19 and reporting in times of uncertainty – a look forward’. 

The report contains useful guidance to insurance companies on possible approaches to deal with the going concern prospect:

“COVID-19’, or ‘pandemic’ has been included by almost all companies as a new primary or emerging risk or most entities, this risk is considered to be pervasive and significant at least in the short term. However, whilst this approach draws attention to the risk, it can reduce visibility around how individual components of the risk unwind which will become increasingly important as we begin to move to a post COVID 19 situation. Some companies have adopted an alternative approach. Instead of disclosing CVID19 itself as a primary or emerging risk, some companies have disclosed the effects the pandemic has had on their other risks and how the ‘rating’ of these risks has changed since their previous reporting. A ‘blended’ approach in which a new COVID 19 risk has also been identified with other risks tailored to take the effect of COVID-19 into account could also be useful. Disclosing the effects of the components of COVID-19 on other risks, rather than as a separate risk, may provide more useful information to users. COVID-19 was an event that triggered a cascade of other risks. As we move into the longer term, the longevity and nature of impact on the individual components of risk will be different. Therefore, what becomes important is understanding the impacts, the actions and the mitigations at this component level rather than ‘pandemic risk’ as an individual risk. The component risks associated with it (government regulation, lockdowns, effect on employees, securing funding and financing and the general economic impact, for instance) may extend to the medium and longer term. Hence, instead of an entity removing a principal (or emerging) risk, the explanation of the risk can be tailored instead. …Investors and other stakeholders are increasingly looking for information from companies about how they will evolve, adapt and respond to changes in the external business environment. The risks and uncertainties that could impact a company’s business model, strategy and viability will vary over the short, medium and longer term. Given the significant reassessment many companies are making to their longer-term business model and strategy, risk, uncertainty and scenario reporting is likely to become even more important.”4

IFRS 17 on insurance contracts has gone through a long gestational period involving the International Accounting Standards Board and other professional bodies including the International Association of insurance Supervisors. A globally accepted accounting standard will come into effect from 1 January 2023. It replaces IFRS 4 which permitted different countries to use national approaches. The Toronto Centre for Global Leadership in Financial Supervision has neatly summarised a few of the main changes:

“IFRS 17 is a major step forward. It improves comparability by introducing a consistent approach to all insurance contracts in jurisdictions applying IFRS. Relevance will be enhanced by measurement of insurance obligations using current values, updated regularly. The line item “change in reserves” or “change in technical provisions” will not be shown in the profit and loss/income statement. Instead, constituent elements will be used to compute and disclose profit or loss from underwriting activities (insurance service result) separately from financing activities (net financial result). Extensive note disclosures will improve transparency and help users better understand trends in profitability, changes in financial position, risk impacts, and the basis for significant judgments and changes in those judgments.”5  

Among the guidance the Centre has offered is the following: 

“Supervisors must ensure adequate oversight of insurers’ IFRS 17 implementation projects. Supervisors should:

• ensure that adequate processes are in place to escalate issues and that material risks, including project risks, are brought to the attention of the board on a timely basis;
• be willing to have hard discussions with insurers’ boards and senior managements about IFRS 17 projects;
• understand the extent to which key resources are being diverted to the IFRS 17 project and any attendant risks;
• understand proposed post-implementation organisational changes at insurers and their impact on controls and independence;
• evaluate processes surrounding key IFRS 17 policy decisions and judgments and, in particular, management’s consideration of the advice of experts, such as actuaries;
• understand how cyber and other risks related to new technologies to be deployed, such as cloud computing, will be managed; and
• ensure that external advisors are truly independent and there is little risk of subsequent self-review.”6

Whilst the COVID-19 pandemic has posed many challenges to insurers, actuaries and reinsurers, public policy demands that insurers must plan ahead of how to meet future contingencies. Medical/health insurance, business disruption losses, etc. will assume greater importance in the months and years to come. 

(The writer is a President’s Counsel, Sri Lanka.)

Footnotes

  International Monetary Fund, Global Financial Stability Report, 2017, p. 18. 

2 Financial Reporting Council, The future COVID 19 and Reporting in times of uncertainty a look forward, October 2020

3 Ramnath Balasubramanian et.al. “Creating value in US insurance investing”, McKenzie, New York, November 2020, p. 6.

4 Financial Reporting Council, Issues of Going concern, risk and viability: COVID-19 and Reporting in times of uncertainty a look forward”, October 2020.

5 Toronto Centre, IFRS 17 Insurance Contracts- What Supervisors need to Know”, November 2020, p. 3

6 Ibid., p. 21.