Management of insurance risks
for the year ended 30 June

 

Background and insurance risk management philosophy

The group’s consolidated insurance businesses are conducted in two separate subsidiary groups, namely OUTsurance and RMBSI.

The following tables show the gross insurance contract liabilities:

As at 30 June 2012
R million    OUTsurance   RMBSI   Total  
Gross insurance contracts           
Short-term insurance contracts           
– claims reported   592   163   755  
– claims incurred but not reported   285   36   321  
– unearned premiums   1 206   799   2 005  
– unexpired risk provision   –   227   227  
– insurance contract cash bonuses   384   –   384  
Long-term insurance contracts           
– claims incurred but not reported   –   4   4  
– policyholder liabilities   14   –   14  
Total gross insurance contract liabilities     2 481   1 229   3 710  
  

As at 30 June 2011
  
R million   OUTsurance   RMBSI   Total  
Gross insurance contracts             
Short-term insurance contracts           
– claims reported   576   121   697  
– claims incurred but not reported   264   28   292  
– unearned premiums   831   766   1 597  
– unexpired risk provision   –   570   570  
– insurance contract cash bonuses   367   –   367  
Long-term insurance contracts           
– claims incurred but not reported   –   6   6  
– policyholder liabilities   2   –   2  
Total gross insurance contract liabilities     2 040   1 491   3 531  

OUTsurance is a direct personal lines and small business short-term insurer and provides long-term insurance to individuals in the form of credit life policies and full life policies. OUTsurance has developed an enterprise risk management framework to provide reasonable assurance that the group’s risks are being prudently and soundly managed. The framework is designed according to acceptable principles on corporate governance and risk management standards. The risk management framework outlines the key risks facing the business and how these risks are monitored.

RMBSI holds both short-term and life insurance licenses. It creates individual insurance and financial risk solutions for large corporates by using sophisticated risk techniques and innovative financial structures. RMBSI’s business strategy is to mitigate insurance risk by passing a significant portion of risk back to the policyholders or external parties or to write business where the overall portfolio insurance risk is controlled within acceptable limits with minimal residual risk accruing to shareholders. In the case of customer protection and credit insurance, policies are written over the entire customer base of the corporate client. This business is written in all retail outlets of the corporate client which has branches throughout South Africa and its adjoining territories. The geographic diversity of this business reduces concentration risk to acceptable levels.

RMBSI’s insurance business comprises a small number of large corporate insurance contracts issued to corporates and institutions, as well as a large number of smaller insurance contracts issued on behalf of the group by its corporate clients or underwriting managers under underwriting mandates. The group’s compliance committee meets on a regular basis, performing a detailed review of all new corporate insurance contracts and underwriting mandates and annually reviews the status of these contracts and mandates. The group’s risk appetite is determined with reference to past experience, its capital base, predictability and volatility of the underwriting result, economic climate and the availability of reinsurance cover, where applicable. In addition, the results from the internal capital model are also used to set risk appetite. There are a large number of small contracts, therefore the risk exposure on this business is diversified.

RMBSI mainly underwrites insurance risk in South Africa, with a small portion arising from risks in sub-Saharan Africa. Due to the number and size of insurance contracts, the profile of the group’s business changes regularly, and as a result thereof gross premiums and gross claims show little comparability between different reporting periods. RMBSI therefore manages its insurance risk in respect of each insurance contract separately through limits of indemnity, reinsurance arrangements or through other arrangements with the group’s clients where they provide the risk capital required for the business, whether on an actual or contingent basis. RMBSI does not pool insurance risks, with the exception of the credit protection business and is able to re-price most of its insurance products in respect of future risks.

Customers are legally bound to report claims soon after a loss has been incurred. Most of the insurance contracts are not subject to significant lags or claim complexity risk and result in relatively low estimation uncertainty. Underwriting exposures are also limited by contractual limits of indemnity. The underwriting strategy provides for a variety of risks.

Reinsurance decisions are made on a case-by-case basis when the compliance committee approves or reviews a transaction. The group reinsures a portion of the risks it underwrites in order to limit its exposures to losses and protect its own customer’s capital resources. Reinsurance contracts comprise both proportional and non-proportional reinsurance. Amounts recoverable under reinsurance contracts are reported after impairment provisions. The ability of reinsurers to meet reinsurance claims is monitored on an ongoing basis.

Due to the appropriate use of reinsurance and catastrophe cover, the RMI Holdings group believes that there is no single risk or event that represents a significant concentration of insurance risk for the group.

As the insurance offerings and therefore insurance risks of OUTsurance and RMBSI differ, the management of insurance risk is presented separately for each of these businesses grouped under short-term and long-term insurance.


Short-term insurance

OUTSURANCE


Terms and conditions of insurance contracts

The group conducts short-term insurance business on different classes of short-term insurance risk. Furthermore, the group underwrites risk products marketed and distributed by FirstRand and MMI group divisions.

  
Types of insurance contracts written   Personal lines   Commercial   Cell captive  
Personal accident   X   X      
Liability   X   X      
Miscellaneous   X   X   X  
Motor   X   X   X  
Property   X   X      
Transportation   X   X      
Engineering       X      
  

The personal lines segment of the business sells insurance to the general public allowing them to cover their personal possessions and property. The commercial segment of the business targets medium and small businesses in South Africa. Insurance products are sold with either a monthly or an annual premium payable by the covered party or entity. Cell captive business refers to arrangements whereby the group underwrites various risk products marketed and distributed by other FirstRand and MMI group divisions. The management of cell captive risks underwritten by the group is performed by the cell administrators. The following is a brief explanation of each risk:

Personal accident
Provide compensation arising out of the death or disability directly caused by an accident occurring anywhere in the world, provided that death or disability occurs within 12 months of this injury.

Liability
Provide cover for risks relating to the incurring of a liability other than relating to a risk covered more specifically under another insurance contract.

Miscellaneous
Provide cover relating to all other risks that are not covered more specifically under another insurance contract.

Motor
Provide indemnity cover relating to the possession, use or ownership of a motor vehicle. The cover includes comprehensive cover, third party, fire, theft and liability to other parties.

Property
Provide indemnity relating to damage to movable and immovable property caused by perils including fire, explosion, earthquakes, acts of nature, burst geysers and pipes and malicious damage.

Transportation
Provide cover to risks relating to stock in transit.

Engineering
Provide cover for liability to other parties, loss or damage related to the ownership and usage of machinery and equipment, as well as the construction of buildings and other structures.

Insurance risks

The primary activity of the group relates to the assumption of possible loss arising from risks to which the group is exposed through the sale of short-term insurance products. Insurance risks to which the group is exposed relate to property, personal accident, liability, motor, transportation and other miscellaneous perils that may result from a contract of insurance. The group is exposed to uncertainty regarding the timing, magnitude and frequency of such potential losses.

The theory of probability forms the core base of the risk management model. Through the continuous sale of insurance products and subsequent growth in the pool of insured risks, the group can diversify its portfolio of risks and therefore minimise the impact of variability of insurance losses affecting that portfolio. Insurance perils are unpredictable in nature, timing and extent which expose the group to a risk that the effect of future insured losses could exceed the expected value of such losses.

Along with its underwriting approach, the group also manages its insurance risk through its reinsurance programme which is structured to protect the group against material losses to either a single insured risk, or a group of insured risks in the case of a catastrophe where there would tend to be a concentration of insured risks.

The underwriting of insurance risk and the passing on of excessive insurance risk to reinsurers is further described below.

Underwriting strategy
The group aims to diversify the pool of insured perils through writing a balanced portfolio of insurance risks over a large geographical area. Products are priced using statistical regression techniques which identify risk factors through correlations identified in past loss experiences. Risk factors would typically include factors such as age of the insured person, past loss experiences, past insurance history, type and value of asset covered, security measures taken to protect the asset, major use of the covered item, and so forth. Risks are priced and accepted on an individual basis and as such there is a minimal cross subsidy between risks. Insurance premiums charged for a certain pool of risks are adjusted frequently according to the normalised loss ratios experienced on that pool of risks.

Insurance risk is monitored within the group on a daily basis to ensure that risks accepted by the group for its own account are within the limits set by the board of directors. Exception reporting is used to identify areas of concentration of risk so that management are able to consider the levels adopted in the reinsurance programme covering that pool of risk.

Risks are rated individually by programmes loaded onto the computer system based on information captured by staff for each risk. Conditions and exclusions are also automatically set at an individual risk level. Individual risks are only automatically accepted up to predetermined thresholds which vary by risk type. Risks with larger exposure than the thresholds are automatically referred and underwritten individually by the actuarial department. These limits are set at a substantially lower level than the reinsurance retention limits. No risks which exceed the upper limits of the reinsurance can be accepted without the necessary facultative cover being arranged. No-claims bonuses which rewards clients for not claiming also form part of the group’s underwriting strategy.

Multi-claimants are also monitored and managed by tightening conditions of cover or ultimately cancelling cover.

Reinsurance strategy
The group reinsures a portion of the risk it assumes through its reinsurance programme in order to control the exposure of the group to losses arising from insurance contracts and in order to protect the profitability of the group and its capital. A suite of treaties is purchased in order to limit losses suffered from individual and aggregate insurance risks. Facultative reinsurance is purchased for certain individual risks that have been identified as being outside the limits set for these risks. The retention limits are modelled to optimise the balance between acceptable volatility and reinsurance cost. Acceptable volatility is as defined by the limits set by the board of directors. The group only enters into reinsurance agreements with reinsurers which have adequate credit ratings.

Concentrations of risk and mitigating policies
Risk concentrations are monitored by means of exception reporting. When large risks are underwritten individually, the impacts which they could have on risk concentrations are considered before they are accepted. Marketing efforts are also coordinated to attract business from a wide geographical spread. Risks which could lead to an accumulation of claims as the result of a single event are declined due to inadequate diversification and overall pool of risk covered. Attention is paid to attract large numbers of relatively small independent risks which would lead to very stable and predictable claims experience.

The South African operation is exposed to a concentration of insurance risk in the Gauteng province of South Africa where 53.7% of the total sum insured is domiciled. The Australian operation is exposed to a concentration of insurance risk in New South Wales where 33.4% of the total sum insured is domiciled. In order to manage this concentration of insurance risk, the group has entered into a catastrophe excess of loss reinsurance treaty that would limit the loss of the group to pre-determined levels following the occurrence of a localised catastrophe in these areas.

Exposure to catastrophes and policies mitigating this risk
Catastrophe modelling is performed to determine the impact of different types of catastrophe events (including natural disasters) in different geographical areas, at different levels of severity and at different times of the day. Catastrophe limits are set so as to render satisfactory results to these simulations. The catastrophe cover is also placed with reinsurers with a reputable credit rating and cognisance is taken of the geographical spread of the other risks underwritten by the reinsurers in order to reduce correlation of our exposure with the balance of their exposure. These reinsurance models are run at least annually to recognise changes in the portfolio and to take the latest potential loss information into account.

Cell captives
Cell captive arrangements have been entered into with businesses within the FirstRand and MMI groups. Per these arrangements, certain risk products marketed and distributed by these companies are underwritten by OUTsurance Insurance Company Limited. Profits arising out of the Cell Captives are distributed by OUTsurance Insurance Company Limited to the FirstRand and MMI group companies by way of preference share dividends.

The collection of premiums and the payment of claims is a function that is performed by the cell or its administrator. The results of the cell are fully consolidated into the results of OUTsurance Insurance Company Limited, and hence are included in these group results. OUTsurance Insurance Company Limited is responsible for maintaining the required solvency for the cell captives.

The profitability of cell captive business is reviewed on a monthly basis to ensure that the group is not exposed to uneconomical risks.

Profit sharing arrangements
A profit sharing arrangement has been entered into between OUTsurance Insurance Company Limited and FirstRand Bank Limited. In terms of this profit sharing arrangement, ninety percent of the operating profit generated on the homeowners’ insurance business referred by FirstRand Bank Limited businesses is paid to FirstRand Bank Limited by way of a bi-annual preference dividend. Where operating losses arise, OUTsurance remains liable for such losses in full, but these losses may be offset against future profit distributions.

Claims development tables
The tables below show the development pattern of OUTsurance’s claims liabilities. The presentation of the claims development tables for the group is based on the actual date of the event that caused the claim (accident year basis).

Reporting development
  
    Financial year in which claims were reported  
Net claims  
Accident year  
Total  
R million  
2012  
R million  
2011  
R million  
2010  
R million  
2009  
R million  
Prior  
2008  
R million  
2012   2 844   2 844   –   –   –   –  
2011   2 689   (6)    2 695   –   –   –  
2010   2 378   1   8   2 369   –   –  
2009   1 914   2   1   24   1 887   –  
2008 and prior   6 320   –   1   2   27   6 290  
Current estimate of
cumulative claims incurred
  
16 145   2 841   2 705   2 395   1 914   6 290  
                           
Payment development
  
                       
    Financial year in which claims were paid  
Net claims   
Accident year  
Total  
R million  
2012  
R million  
  2011  
R million  
  2010  
R million  
  2009  
R million  
Prior   
2008  
R million  
2012   2 440   2 440   –   –   –   –  
2011   2 587   328   2 259   –   –   –  
2010   2 294   18   310   1 966   –   –  
2009   1 994   8   12   202   1 772   –  
2008 and prior   6 324   8   12   14   196   6 094  
Cumulative payments to date      15 639   2 802   2 593   2 182   1 968   6 094  
                           
Incurred development
  
   
    Financial year in which changes occurred
in claims liability  
Net claims   
Accident year  
Total  
R million  
  2012  
R million  
  2011  
R million  
  2010  
R million  
  2009  
R million  
Prior   
2008  
R million  
2012   2 847   2 847   –   –   –   –  
2011   2 646   (34)    2 680   –   –   –  
2010   2 402   (8)    35   2 375   –   –  
2009   1 915   (5)    (1)    24   1 897   –  
2008 and prior   6 320   (5)    –   (109)    120   6 314  
Cumulative payments to date      16 130   2 795   2 714   2 290   2 017   6 314  
  

RMBSI

The following table shows the net actuarial liabilities of the group at 30 June 2012:
R million   UPP net of  
DAC/DAR  
IBNR   Outstanding  
claims  
Total  
Motor   87   2   7   96  
Property   –   1   2   3  
Accident and health   36   1   –   37  
Engineering   5   4   8   17  
Liability   616   3   1   620  
Transport   –   –   –   –  
Miscellaneous   –   3   –   3  
Total   744   14   18   776  


The following table shows the net actuarial liabilities of the group at 30 June 2011:
R million   UPP net of  
DAC/DAR  
IBNR   Outstanding  
claims  
Total  
Motor   60   4   5   69  
Property   2   1   4   7  
Accident and health   20   1   –   21  
Engineering   12   4   10   26  
Liability   550   1   4   555  
Transport   –   –   –   –  
Total   644   11   23   678  
Note:
The actuarial liabilities calculated above by the actuaries do not take excess of loss reinsurance into account and therefore differ slightly from the statement of financial position.

The actuarial liabilities of RMBSI include the following:

Unearned premium provision (“UPP”)
The UPP is calculated on the assumption that the risk profile under a policy is uniformly distributed over the term of the policy. The method applies the proportion of the policy term still outstanding to the total written premium to obtain the value of premiums still to be earned.

For debt-related business, the premium in any period is related to the value of the outstanding debt. RMBSI therefore calculates the outstanding debt value as a proportion of the original debt and apply this to the total written premium to obtain the UPP.

For inward reinsurance business the UPP is subject to a minimum of 50% of the net written premiums.

It was assumed that all UPP implicitly include a risk margin equivalent to a 75% level of sufficiency in line with the requirements of PGN 401 for the purposes of the current valuation. This assumption is regarded as reasonable considering that on average premium rates are set at a profitable level.

Unexpired risk provision (“URR”) and additional unexpired risk provision (“AURR”)
The URR is equal to the expected cost of future claims and related expenses expected to arise from policies that have unexpired cover as at the valuation date. The methods used to estimate the URR may differ from one case to another. For most of the insurance transactions the historical loss ratios were considered to form a view on the URR. If the URR exceeds the UPP this could indicate that the premiums charged are inadequate for the risks covered.

To allow for this, an AURR is set aside to cater for the additional expected loss. The AURR is the positive difference between the URR and UPP after the deduction of any deferred acquisition costs.

None of the insurance transactions of the company required an AURR as at 30 June 2012.

Incurred but not reported (“IBNR”) provision
The most common techniques used to determine IBNR provisions are the ultimate loss ratio method, Chain-Ladder and the Bornheutter-Ferguson methods or a combination of these methods.

The Bornheutter-Ferguson method combines the Chain-Ladder technique with a market- or company-related estimate of the ultimate loss ratio and is intended to stabilise the projections where data is scarce. This method is often useful where developed claims experience is not alone sufficient to determine IBNR provisions. The ultimate loss ratio method requires less information than the Bornheutter-Ferguson method in that is does not use or assume a development pattern.

The IBNR provisions were calculated using a combination of methods. On some transactions the IBNR was derived using a combination of the Bornheutter-Ferguson and Chain-Ladder methods on paid claims data. The proposed Solvency Assessment and Management regulatory framework interim measure method was used to estimate the IBNR claims provisions for other 78 / transactions. This is a method of estimating IBNR claims provisions using the results of the industry data calibration performed by Deloitte Actuarial and Insurance Solutions for the Financial Services Board as part of the Financial Condition Reporting recalibration process.


Long-term insurance

OUTSURANCE

Terms and conditions of insurance contracts
The group conducts long-term insurance business on various classes of long-term insurance risk. Products are only sold to the South African retail market. The types of insurance contracts written or risks covered are as follows:

  • Death cover;
  • Disability cover;
  • Critical illness cover;
  • Retrenchment cover; and
  • Temporary disability cover.

The following gives a brief explanation of each risk:

Death cover
Provide compensation arising out of the death of the policyholder. With respect to the credit life product, in the event of a valid death claim, OUTsurance Life Insurance Company Limited (“OUTsurance Life”) settles the policyholder’s outstanding debt by way of a lump sum payment to the finance provider. In the case of the underwritten life product, OUTsurance Life pays the sum assured in the event of a valid death claim.

Disability cover
Provide compensation arising out of the permanent disability of the policyholder. With respect to the credit life product, in the event of a valid disability claim, OUTsurance Life settles the policyholder’s outstanding debt by way of a lump sum payment to the finance provider. In the case of the underwritten life product, OUTsurance Life pays the sum assured in the event of a valid disability claim.

Critical illness cover
Provide compensation arising from the policyholder contracting a specified critical illness. With respect to the credit life product, in the event of a valid critical illness claim, OUTsurance Life settles the policyholder’s outstanding debt by way of a lump sum payment to the finance provider. In the case of the underwritten life product, OUTsurance Life pays the sum assured in the event of a valid critical illness claim.

Retrenchment cover
Provide compensation arising from the policyholder being retrenched during the policy term. In the event of a valid retrenchment claim, OUTsurance Life undertakes to pay the policyholder’s monthly instalment to the finance provider as well as the credit risk premium for a specified period of time.

Temporary disability cover
Provide compensation arising out of the temporary disability of the policyholder. In the event of a valid temporary disability claim, OUTsurance Life undertakes to pay the policyholder’s monthly instalment to the finance provider as well as the credit risk premium for a specified period of time.

Insurance risks
The primary activity of OUTsurance Life relates to the assumption of loss arising from risks to which it is exposed through the sale of long-term insurance products. It is exposed to uncertainty regarding the timing, magnitude and frequency of such potential losses.

The theory of probability forms the core base of the risk management model. Through the continuous sale of insurance products and subsequent growth in the pool of insured risks, OUTsurance Life can diversify its portfolio of risks and therefore minimise the impact of variability of insurance losses affecting that portfolio.

Along with its underwriting approach, OUTsurance Life also manages its insurance risk through its quota share and excess of loss reinsurance programme which is structured to protect it against material losses on single insured risks.

The underwriting of insurance risk and the passing on of excessive insurance risk to reinsurers is further described below:

Mortality and morbidity risk
Mortality risk is the risk of loss arising due to actual death rates on life insurance business being higher than expected. Morbidity risk is the risk of loss arising due to policyholder health related claims being higher than expected.

The following processes and procedures are in place to manage mortality and morbidity risk:

  • Premium rates are differentiated by factors which historical experience has shown are significant determinants of mortality and morbidity claims experience such as medical history and condition, age, gender, smoker status and HIV status.
  • The expertise of reinsurers is used for pricing where adequate claims history is not available.
  • Reinsurance arrangements are put in place to reduce the mortality and morbidity exposure per individual policy and provide cover in catastrophic events.
Underwriting experience risk
There is a risk that actual mortality and morbidity experience is higher than expected. This could arise as a result of the number of claims or the value of the claims being higher than expected. Selection risk is the risk that worse than expected risks are attracted and charged inadequate premiums. There is also a risk that the number of claims can increase due to the emergence of a new disease or pandemic.

Underwriting experience risk is managed through:

  • Product design and pricing
    Rating factors are applied to different premium rates to differentiate between different levels of risk. Amongst other, premiums are differentiated by age, gender, smoking status and medical history. Premium rates are approved and reviewed by the statutory actuary.

  • Underwriting
    Underwriting ensures that only insurable risks are accepted and that premiums accurately reflect the unique circumstances of each risk. The group has developed an advanced medical underwriting system which captures detailed information regarding the clients’ medical history and condition which is used for premium adjustments and to indicate where further underwriting is required by experienced medical underwriters. To verify the accuracy of client data, all new clients are subject to various medical tests. Quality audits are performed on the underwriting process to ensure underwriting rules are strictly followed.

  • Reinsurance
    OUTsurance Life’s quota share and excess of loss reinsurance programme mitigates claims volatility and risk accumulation. Reinsurers also assist with pricing and product design decisions.

  • Experience monitoring
    Experience investigations are conducted and corrective action is taken where adverse experience is noted.
Lapse risk
Policyholders have the right to cancel their policies at any given time during the policy duration. There is a risk of financial loss and reduced future profitability due to the lapse experience being higher than expected. Lapse risk is managed by ensuring:

  • Appropriate product design and pricing;
  • Providing high quality service; and
  • Continuous experience monitoring.
Modelling and data risk
Modelling risk is the risk that discounted cash flow models used to calculate actuarial liabilities and valuations do not accurately project the policy cash flows into the future. Data risk is the risk that the data which is used by the above models is inaccurate relative to actual experience.

Modelling risk is mitigated by way of employing specialist actuarial software which is widely used by industry participants. The services of the statutory actuary are also employed to ensure models are accurately set up.

Data risk is managed by using internal systems and warehouse technology which is used by all companies within the group. Data reports are readily available and frequently used by management to track performance and verify experience variables.

Expense risk
Expense risk is the risk that actual expenses are higher than the budgeted expenses on which premium rates are calculated. Expenses are monitored on a monthly basis against budgeted expenses. Any deviation from budget is investigated, reported and remedial action taken where necessary.

Tax risk
Tax risk is the risk that the actual future tax liability is different to what is currently expected. This could be as a result of interpretation or application of tax legislation or as a result of changes in the tax legislation. External tax advice is obtained where necessary.

RMBSI

RMBSI currently has the following business on its books:

Investment linked policies
The group has issued linked policies to companies and universities for their future uncertain employee obligations. The calculation of the investment contract liability is an amount equal to the underlying financial assets.

Credit life policies
These policies grant protection to policyholders who have entered into instalment sale agreements. The protection is for the accidental loss of life and/or retrenchment of the policyholder.

The following shows the gross and net actuarial liability of RMBSI:

30 June 2012
R million    Gross   Reinsurance   Net  
Credit life policies   4   –   4  
Investment linked policies   1 145   –   1 145  
Total    1 149   –   1 149  


30 June 2011

R million    Gross   Reinsurance   Net  
Credit life policies   6   –   6  
Investment linked policies     1 046   –   1 046  
Total    1 052   –   1 052  


CRITICAL ACCOUNTING ESTIMATES AND JUDGMENTS IN APPLYING ACCOUNTING POLICIES RELATING TO INSURANCE CONTRACTS
The group makes estimates and assumptions that affect the reported amounts of assets and liabilities within the next financial year. Estimates and judgments are continually evaluated and based on historical experience and other factors, including expectations of future events that are believed to be reasonable under the circumstances.

The estimation of the ultimate liability arising from claims made under insurance contracts is the group’s most critical accounting estimate. Several sources of uncertainty have to be considered in estimating the liability that the group will ultimately be exposed to for such claims. The risk environment can change quickly and unexpectedly owing to a wide range of events or influences. The group is constantly refining the tools with which it monitors and manages risks to place the group in a position to assess risk situations appropriately, despite the greatly increased pace of change.


Short-term insurance

Provision for outstanding claims (“OCR”)
Each reported claim is assessed separately on a case by case basis, by either a computer algorithm based on past experience or a claims assessor with the relevant experience, taking into account information available from the insured. The estimates are updated as and when new information becomes available.

Provision for claims incurred but not reported (“IBNR”)
The estimation of the IBNR provision generally holds a greater level of uncertainty than the other provisions as this is an estimation of claims that have not been reported yet based on past information. The larger the IBNR provisions, the longer the expected period between the date of loss and the claims reporting date and/or the more severe the unreported claims.

The IBNR provision is calculated as a percentage of net written premium. The required IBNR percentage is calculated with reference to the run-off period of incurred claims and includes an additional margin to bring the IBNR provision to a 75% sufficiency level. The overall IBNR percentage represents the weighted average of the required IBNR per business class, weighted by the net written premium generated by each business class.

Unearned premium provision (“UPP”)
The underlying risk of the insurance contracts underwritten is predominately evenly spread over the contract term. The unearned premium is released over the term of the insurance contract in line with the risk profile release. Where relevant, the UPP calculation basis has been adjusted to take account of the actual outstanding risk as well as the pattern of risk expected in future periods.

Liability for non-claims bonuses
The provision for non-claims bonuses is determined with reference to the contractual obligation per the contract of insurance adjusted for expected future claims and client cancellations based on historical experience. A risk margin is added to the best estimate of the future liability to allow for the uncertainty relating to future claims and cancellation experience.


Long-term insurance

Policyholder liabilities
The actuarial value of policyholder liabilities is determined based on the Financial Soundness Valuation (“FSV”) method as detailed in PGN 104 issued by the Actuarial Society of South Africa. The FSV basis is a prospective, discounted cash flow basis calculated as the difference between the present value of future benefit payments and expenses and the present value of future premiums. In addition, compulsory margins are added to allow for risk and uncertainty based on the requirements of PGN 104. The liabilities under investment linked contracts are valued at the value of the assets backing these contracts.

The methodology followed and the assumptions used in this valuation are the same as that used in the previous year’s valuation except for the economic assumptions which have been changed in line with market rates.


 As at 30 June 2012 the compulsory margins were as follows:
Assumption   Margin   
Investment return   0.25% increase/decrease*  
Mortality   7.5% increase  
Morbidity   10% increase  
Disability   10% increase   
Retrenchment   10% increase  
Expenses   10% increase   
Expense inflation   10% increase of estimated escalation rate  
Lapses   25% increase/decrease* on best estimate  
* Depending on which change increases the liability.

In addition to the above compulsory margins, discretionary margins may be added to protect against future possible adverse experience. Negative reserves are eliminated on a per policy basis. The results for the experience investigations are briefly described below:

Demographic assumptions
In light of insufficient experience emerging during the first year of operation at OUTsurance, the best estimate assumptions with regard to dread disease and disability, mortality and retrenchment rates were set equal to those used in the pricing basis as developed by the reinsurer and approved by the statutory actuary. Provision has been made for the expected increase in the occurrence of AIDS- related claims.

AT RMBSI, assumptions on mortality and other decrement rates were based on current market experience as the data provided in respect of these policies are not sufficient to perform credible experience investigations upon which assumptions could otherwise be based.

Economic assumptions
Investment return
The assumed future investment return was set with reference to bond yields of appropriate duration at the valuation date. This resulted in an assumed investment return, gross of tax, of 5.25% (2011: 7%) for the credit life product and 6.75% (2011: 8%) for the underwritten life product (launched in the 2011 financial year).

Inflation
The current assumed level of future expense inflation is 6% (2011: 5.25%) per annum and was derived by comparing the real yield on inflation linked bonds with the nominal yield on conventional gilts, both of similar terms.

Taxation
Future taxation and taxation relief are allowed for at the rates and on the bases applicable to S29A of the Income Tax Act at the reporting date. The group’s current tax position is taken into account and the taxation rates, consistent with that position and the likely future changes in that position, are allowed for.

Incurred but not reported claims
In addition to the discounted cash flow liability an IBNR reserve is held. The IBNR was set using a claims run-off model based on recent experience and best estimates. The IBNR for classes of business in run-off is based on two months of projected claims.

The group is exposed to various financial risks in connection with its current operating activities, such as market risk, currency risk, credit risk, liquidity risk and capital adequacy risk. These risks contribute to the key financial risk that the proceeds from the group’s financial assets might not be sufficient to fund the obligations arising from insurance and investment policy contracts.

 

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