Captive Insight Vol I | Page 56

CAPTIVEINSIGHT Captives: Andrew Cater Senior Underwriter Aon Risk Solutions Setting the Scene - Why are Reinsurers Interested in Captives? Growth in the Captive Market A CAYMAN REINSURER’S PERSPECTIVE Captive insurance companies are closely held insurance companies, whose business is principally supplied and controlled by its owners. They are generally efficient structures where the principal insured is normally the main beneficiary. Such corporations have ascertained value to retaining a portion of their own risks within a separated corporate structure- a captive insurance company. Reinsurers provide protection to insurance companies in the commercial insurance world, to protect those entities from adverse loss. Reinsurance can also allow them to take more risk than their capital would ordinarily allow. Certain reinsurers, including this one, find the discipline required of a client being prepared to accept its own risk into a captive, or having “skin in the game”, to be particularly attractive. The perception is that clients who are prepared to do this are generally much more risk aware and understand the value of loss prevention. Traditional insurance markets are not always efficient or prepared to offer certain lines of coverage. This occurs often at dollar swapping levels where frictional costs translates into US$1 of loss costing US$1.30 to insure, as traditional insurers have to fund expenses. There are also certain areas of coverage where traditional insurers are afraid to walk. Captives often fill 56 these areas through careful analysis of those risks, actuarial studies and their own historical experiences, making those lines of business acceptable into a captive structure. As a result, captive reinsurers are more prepared to look at these possibilities and assist the captive with extra capacity. Benefits of Captive Reinsurance Structures As far as this reinsurer is concerned, we are more likely to see wellmanaged reinsurance risks via a captive than from the direct marketplace. The risk managers and captive directors mitigate and control their risks generally more effectively than pure “insurance buyers” and that is very attractive. In addition we see risks that are sometimes not offered to commercial markets, but they generally are profitable business. Likewise, reinsurers offer captives access to markets that they would not have access to on a day to day basis as an “insurance buyer”. Pricing in captives is generally more stable than commercial markets. Hence a captive takes out the volatile swings in pricing that can occur in certain direct underwriting markets, which reinsurers see as beneficial. Generally, frictional costs are lower in a captive environment too. In short there are many efficiencies and benefits to be gained from captive reinsurance structures for both parties. Despite some difficult economic times recently, full captive insurance company numbers have increased worldwide from 4,659 to 6,057 in the last 10 years. With continued globalisation, we believe that the captive market will continue this growth in the future, possibly accelerating as more domiciles are created, and with more clients realising the benefits of captives. Opportunities continue to grow in traditional markets with noticeably increasing interest and reinsurance contracts coming from EU, Eastern Europe and the Far East. These newer markets will benefit from the knowledge gained through the trials and tribulations experienced in the more developed markets, and these areas present major opportunities for experienced reinsurers and captive managers alike. From all our perspectives this has to be good news. Captive Reinsurance from the Captive’s Perspective. A newly formed captive will generally start small and build up over time. In the early years a captive will seek reinsurance to protect it from adverse loss and protect its capital. In some ways, reinsurers can act as a kind of “incubator” for captive insurers, and this still applies whether you are in the old economies or the developing ones. Reinsurance will provide a form of contingent capital and reduce the need for hard capital within the captive.