Written by Rick Newton
& Luann Petrellis

Introduction

The recent world financial crisis has changed the way business looks at itself as well as the way the public and regulators think about businesses. The outlook of most business leaders has changed from the pre 2007 expected future of unlimited growth to a more somber and practical current outlook that deals with loss of wealth, asset protection, increased scrutiny and higher levels of financial risk. The near-death experience of AIG during the financial crisis and the restructuring that was forced upon AIG is the best example of how companies must look to avoid complicated and constrictive financial structures in order to effectively manage their operating businesses in the post crisis financial environment.

This change in the world‘s business outlook affects the priorities of many financial managers. Consider the views of the CFO’s attending the recent CFO Network conference organized by the Wall Street Journal [1] in mid-June 2013.  According to the opinion of these CFO’s,  US companies should pursue concrete objectives such as energy cost reduction, management of restructuring processes and the better understanding of global risks including cyber security. Today’s business environment mandates concrete objectives while in the past CFOs were interested in more general global objectives to grow and achieve vertical integrations.

Today, business managers are focused on the restructuring process that means introducing changes to a company to make it viable and more profitable.  The objective of any restructuring is to implement changes in the corporation so that it will generate enough cash flow to pay its liabilities, cover the cost of debt and remunerate its shareholders satisfactorily. The ability of the US commercial P&C (P&C) Industry to accomplish these restructuring objectives is more challenging today than at any time in the past.

Restructurings

Restructurings are more complicated for those companies that operate in regulated industries. For example, increased regulatory scrutiny of the banking industry since the financial crisis has led several large non-bank companies to be designated as SIFIs, or systemically important financial institutions, and undergo restructurings.  SIFIs are banks, insurance companies or other financial institutions whose failure might trigger a financial crisis.[2] GE, after being designated a SIFI, now intends to reduce its financial assets towards its goal of $100 billion in asset sales before year-end 2015, with a final goal of $200 billion by year-end 2016 by selling off most of GE Capital.[3]  This is a most profound change to the financial services industry as GE Capital was ranked as the 6th largest banking group in the US prior to embarking on this restructuring.

What does this portend for the financial services industry?  The insurance industry is well aware that increased oversight, continuing expansion of state regulations, and limited restructuring options have created operating issues, increased compliance costs, and raised additional concerns that consume management time and attention.

How does the US P&C Industry participate in a restructuring process? The answer is with difficulty, especially when one major component includes run-off liabilities from expired polices with long term claim exposures that total hundreds of billions of dollars.  To advance the restructuring of the US P&C Industry or a specific insurance company, there must be an effective run-off strategy that focuses on capping or eliminating open-ended legacy liabilities.

A.M. Best A&E Study

To gain an appreciation of the risks being confronted by the P&C Industry, one simply has to consider recent A&E loss development experience. In a recent study, A.M. Best estimates the industry’s ultimate net liabilities have increased to $85 billion for asbestos and $42 billion for environmental. Compared to current industry reserves, this represents unfunded liability of $7 billion for asbestos and $4 billion for environmental.  Total A&E incurred losses (paid claims plus reserves) have increased in five of the last seven years, including a 16% increase in 2013.[4]

The overall conclusion by Best is that asbestos claim counts, losses, and loss estimates are unlikely to decline given latency periods, the size of the affected population, the increase in lung cancer claims, and recent court decisions.  Many companies struggle with retaining these risks on their balance sheet.

Current State of US Run-off Market

Whether the entity is a small P&C company or an international insurance group, there is a continual need for effective restructuring tools to optimize capital deployment as well as to manage run-off liabilities.   Three of the larger insurer groups that represented 50% of 2013 incurred losses from A&E, have engaged in large loss portfolio transfers with Berkshire Hathaway’s National Indemnity. These larger insurance groups can afford to enter into these sophisticated reinsurance transactions, but what about the remainder of the insurance industry?  There are limited options for many small and mid-sized insurance companies.

In addition, many companies have portfolios of business that are either inconsistent with their core competency or provide excessive exposure to a particular risk or segment of the market, such as product, asbestos, environmental, and director and officer liability exposures. These non-core and/or discontinued polices and portfolios are often associated with potentially large exposures and lengthy time periods before resolution of the last remaining insured claims, resulting in significant uncertainty to the insurer or reinsurer covering those risks. These factors can distract management, require additional capital and surplus and negatively impact the insurer’s or reinsurer’s credit rating, which makes the disposal of the unwanted company or portfolio an attractive option.

Management View of Run-Off

Management at many US carriers is frustrated by the lack of exit options available to a company in the highly regulated insurance industry.  Large amounts of insurance capital are deployed to support run-off portfolios that are generally viewed negatively by rating agencies and investors.  Sale, commutations, reinsurance and loss portfolio transfer have been the most frequently utilized alternatives but each of these has limited application and in many cases are not practical solutions, particularly in the low interest rate environment of recent years.

Most companies have considered these alternatives and are looking for other effective ways to deal with the “rump” of the run-off legacy liabilities that remain on the balance sheet. Many senior managers in the US run-off industry believe that the US run-off market has become staid and complacent. Senior management is frustrated by the lack of progress and available options to address their legacy liabilities.

Rhode Island Insurance Regulation 68— the Insurance Business Transfer

Now for the answer!

The Rhode Island Department of Business Regulation has approved Amendments to Insurance Regulation 68 providing for “Insurance Business Transfers” (“IBT”), which are effective as of August 18, 2015.  The IBT is a carefully monitored, transparent and court sanctioned novation process for the transfer of some or all of a company’s commercial run-off liabilities to a newly formed or re-domesticated RI company. The transferred polices move from one company, (does not have to be a RI company) to another company (must be a RI insurer), and includes the attaching reinsurance.  The terms, conditions, exclusions and limitations of the transferring policies remain unaltered and only the obligor changes as a result of the court-sanctioned novation.

The IBT applies to all lines of reinsurance, other than life, and all lines of insurance, other than life, worker’s compensation and personal lines insurance.  The transferring policies must have a natural expiration date more than sixty months prior to the date of filing for an IBT and be in a closed book of business or a reasonably specified group of policies.  The bottom line is that the IBT provides an effective restructuring tool for commercial P&C insurers or reinsurers with run-off business.

The IBT approval process requires a rigorous financial review, including the report of an independent expert and regulatory and judicial review and approval.  The requirements involved in the approval process include an analysis of the economic feasibility of the transfer plan to ensure that the viability of both the transferring and assuming companies are sustainable over time.

The importance of the IBT transaction is the ability to provide a fair solution that balances the needs of all company stakeholders.  Companies with run-off business can transparently exit from these liabilities, while the interests of policyholders are protected by a closely monitored and judicially approved transfer process.

Impact of RI Run-off Regulations on US P&C Market

The IBT allows for a more level playing field for all insurance carriers, whether large international insurance groups or small companies, to have access to expanded options to address their run-off exposures.  Because of its versatility, the IBT provides expanded options for management of run-off liabilities and for the first time brings finality to legacy liabilities.

The IBT permits more efficient management of transferred books of business, and allows dedicated capital and focused solutions to be applied to run-off liabilities.  It also provides a reasonable framework for transfers of insurance business while also safeguarding the interests of policyholders, resulting in a fair outcome for all parties involved.  It is expected that over time the IBT will become a widely accepted restructuring tool for insurers.

UK Experience

The Insurance Business Transfer is modeled on the UK Part VII Transfer that has been in place since 2001 and has resulted in hundreds of successful transfers of business. To date, there has been no Part VII transfer that has encountered financial difficulties. Investors have come to view the UK market more favorably because a large amount of captured surplus has been freed up to be re-deployed.

Benefits of the RI IBT

Like the UK Part VII transfer, the IBT is very versatile and can be applied to discrete portfolios or to change a company’s whole business.  Because of the IBT’s flexibility, there are significant benefits to both the transferring and assuming companies.  Some of these benefits include:

Transferring Company

  • Capital efficiency
  • Group restructuring
  • Regulatory and operational efficiency
  • Corporate simplification/Consolidation of legacy business
  • Removal of non-core lines
  • Economic and legal finality (if external transfer)
  • Removal of risk of adverse loss development

Assuming Company

  • Regulatory and operational efficiency
  • Potential opportunity for tax savings
  • Market presence/increased share
  • Creation of center of excellence
  • Profit from efficient management/exit
  • Consolidation of legacy business
  • Rational process to enter run-off market

Conclusion

For a restructuring to be accepted by regulators, policyholders and other constituents, it must be fair to all parties.  The IBT process requires that both transferring and non-transferring policyholders be treated fairly within the regulatory legal framework. At the same time, through its rigorous review process that requires extensive financial disclosure, the IBT ensures stability to both the transferring and assuming companies. The future success of the company, after recognizing its obligations to all policyholders, ensures the integrity of the regulatory process.


[1] The Executive Guide to Corporate Restructuring, by Francisco J. Lopez Lubian, 2014

 

[2] Wikipedia definition

 

[3] Morningstar

 

[4] A.M. Best Releases Annual A&E Study – February 5, 2015 by KCIC


Something new and important is coming to the $200 billion plus run-off market in the U.S. Proposed amendments to Insurance Regulation 68 are pending in the State of Rhode Island (RI) and are expected to be approved later this year. These amendments have the potential to invigorate and transform the market, similar to what has occurred in the UK run-off market over the last several decades resulting from the introduction of new run-off legislation. The RI regulations will provide expanded options for management of run- off liabilities and for the first time bring finality to legacy liabilities.

There are major challenges facing companies with P&C run-off business. These challenges include access to exit mechanisms, maintaining reputation, capital constraints, operational costs, adverse loss development, adverse impact to a company’s rating, and lack of skilled resource. The larger insurance groups are rethinking organizational structures with a view to maximizing the efficiency of capital deployed. Whether the entity is a small P&C company or an international insurance group, there has been a con– tinual need for effective restructuring tools to optimize capital deployment as well as to manage run-off liabilities. Clearly the market is ready to consider new tools and approaches to address the challenges of run-off business.

Pursuant to its authority under Rhode Island Gen. Laws Section 27-14.5, the RI Department of Business Regulation has published Proposed Amendments to Insurance Regulation 68, providing for “Insurance Business Transfers” (“IBT”), which are defined as the “transfer of liabilities and assets in accordance with the procedures delineated in this Regulation.” The amendments provide a carefully monitored, transparent process for the transfer of some or all of a company’s commercial run-off liabilities to a newly formed or re-domesticated RI company through a department approved and court sanctioned novation process bringing finality to the legacy exposures of the transferring company. The IBT also provides an effective restructuring tool for insurers or reinsurers. IBTs can be used to 1) combine similar business from two or more subsidiaries, putting all into a single pot; 2) transfer business between third parties; or 3) separate out different books of business, putting them into separate companies.

As a public policy matter, the proposed amendments fill a huge void in the current regulatory environment for run-off business and are beneficial to all parties involved in the IBT transaction. The transferring and assuming companies receive value relative to their long-term interests and finality through the statutory novation effected by the Court Order. The policyholders and/or reinsureds in the transferring business benefit from the focused management of the Assuming Company and the oversight of the RI insurance department.

Currently the assumption and novation regulations in the U.S. are restrictive and significantly limit the options available to owners of run-off companies to pay their obligations to policyholders and terminate their exposure to future liability. As a consequence, capital is trapped and unable to be deployed for more beneficial purposes. The importance of the IBT transaction is the ability to provide a fair solution that balances the needs of all the company’s stakeholders. The RI Proposed Amendments allow companies with run-off business to distance themselves transparently from these liabilities, while also providing security to policyholders through a closely monitored and judicially approved transfer process.

Consistent with the strong policyholder protection that currently exists in U.S. law, the proposed amendments include provisions that address policyholder concerns. To protect policyholders the statute has specific notice requirements that provide for notice to policyholders and various other specified parties. Also, the IBT approval process requires 1) extensive disclosure of financial information of the Assuming Company; 2) an expert report that will evaluate the impact to transferring policyholders and non-transferring policyholders; and 3) an independent evaluation by the Insurance Department. Most importantly, there is complete judicial review of the IBT Plan and, before the transaction will be approved, the Assuming Company must satisfy the Court that the transfer does not materially, adversely affect policyholders. Any party who feels adversely affected by the transfer can make a representation to the Court for consideration. Once approved, the Assuming Company is subject to the continuing authority of the RI Insurance Department. A similar process has been available in the United Kingdom for many years and has resulted in hundreds of successful trans- fers of business. Building upon the UK process and, in some ways, superior to it, the RI proposed amendments will permit more efficient management of transferred books of business, and allow dedicated capital and focused solutions to be applied to run-off liabilities. While providing a reasonable framework for transfers of insurance business, the proposed amend- ments also provide sufficient safeguards for policyholder protection resulting in a fair outcome for all parties involved.

As a public policy matter, the proposed amendments fill a huge void in the current regulatory environment for run-off business…

The IBT process is initiated by the Assuming Company submitting an Insurance Business Transfer Plan (Plan)
to the RI DOI for approval. The regulations set forth the requirements of the Plan, which include an expert report that opines on the potential impact to various groups of policyholders and an approval of the transfer by the domiciliary state of the Transferring Company. Once the DOI

has approved the Plan, the Assuming Company may file a Petition with the Rhode Island Superior Court for approval of the transfer. The Assuming Company must comply with the broad notice require- ments set forth in the statute, which in- clude a requirement that notice be given to all policyholders at their last known address. Once approved by the court, the IBT results in a DOI approved and court sanctioned novation of the transferred policies, releasing the Transferring Com- pany from liability under the transferred policies. While loss portfolio transfers and reinsurance provide some economic final- ity, the IBT will provide economic and le- gal finality to the Transferring Company.

Good planning and project management of an IBT are essential. There are certain challenges to be tackled in pursuing an IBT and early contemplation of potential obstacles makes all the difference. For companies promoting the transfer, their objective is to minimize risk of objection and to achieve regulatory and court approval of the transaction. Therefore, companies are well-advised to spend time up-front identifying where the risks of challenge may come from. Once the potential challenges have been identified, including identifying the parties which may bring them, a strategy is required to address potential objections such as:

• A communication strategy designed to define clearly the business being trans- ferred, the purpose of the transfer and the impact on potential objectors. The com- munication process must also flesh out as early as possible the concerns of potential objectors, which can then be followed up, if necessary, on a one-to-one basis.

• A strategy for addressing concerns of potential objectors to secure their sup- port, which may include amendments to operational plans or capitalization.

• A contingency plan for dealing with key objectors who will not support the trans- fer, which may include commutation, no- vation or exclusion from the transfer.

As the UK experience has proven, the IBT provides an effective restructuring tool for all insurers. While for some insurers the upfront costs of professional actuarial and legal advice may be a turn- off from proceeding with restructuring, these costs start to become more acceptable when set against the long-term benefits arising from an IBT. In addition, for the first time in the US an insurer can achieve finality with respect to its run-off business through an IBT to a third party RI Commercial Run-off Insurer. l


Luann Petrellis, EY, Insurance Advisory Services luann.petrellis@ey.com


 


Download the Survey HERE

Published at 10:00 AM on 14 September 2015

PwC’s 9th annual survey of discontinued insurance business in Europe, launched today at the Monte Carlo Reinsurance Rendez-vous, estimates the non-life European legacy insurance market to comprise run-off reserves worth €247bn, an increase of €5bn compared to last year.

A key factor in the increase in reserves has been in the UK and Irish markets where the trend of strengthening long-tail employers’ liability reserves has continued. In addition, and in common with other European counterparts, there is an increase in discontinued insurance business as insurers classify certain business lines as being in run-off much earlier in their life cycle.

The survey, which is based on responses from a cross-section of European risk carriers and service providers, sees 18% and 43% of Continental European respondents rating run-off and legacy management as a “high” or “medium” priority respectively on their board’s agenda. This compares to 38%, high priority, and 33%, medium priority, of the UK and Irish respondents. Furthermore, as the run-off market is no longer witnessing so many distressed situations, almost half (47%) of the respondents say that their overall business strategy would be the most likely factor to increase the likelihood that they would implement an exit or restructuring solution for a legacy portfolio.

Ahead of its implementation on January 1st 2016, preparation for Solvency II is the top challenge facing Continental European (re)insurers with run-off business. However, a lack of Board level engagement is ranked as the second most pressing challenge for legacy business managers.

Dan Schwarzmann, head of solutions for discontinued insurance business at PwC, said:

“The European insurance run-off sector has seen plenty of activity and we are certain run-off liabilities will continue to grow. Solvency II implementation is promoting a sharper focus on capital and providing an impetus for insurers to assess the future of their non-core portfolios.

“The current vibrant M&A scene in the live insurance market should also create future activity in the run-off sector as merged companies focus much more on what books to discontinue. Our survey respondents indicate they expect to continue to see significant run-off M&A activity involving small-mid size portfolios (€10m-€100m) over the next few years and we believe there is also scope for larger deals to come to market.

“The run-off market has a history of innovation and, as liabilities continue to grow and run-off and legacy management moves higher up the list of priorities for Continental European Boards, we expect to see more creative ways of providing certainty and finality to run-off books.”

Other key findings from PwC’s 9th survey on discontinued insurance business in Europe:

The greatest challenges facing Continental European (re)insurers with run-off business are:

1)       Preparation for Solvency II []

2)      Board level engagement for legacy business [new entry this year]

3)      Operational costs []

4)      Adverse loss development []

5)      Maintaining reputation [↓]

6)      Capital constraints [↓]

7)      Lack of skilled resource [-]

8)      Access to exit mechanisms [↓]

[if !supportLists]·         [endif]91% of respondents think there will be five or more disposal transactions in Europe over the next two years (68% think there will be more than ten). The UK, Ireland and Germany are expected to be the most active territories for these transactions.

[if !supportLists]·         [endif]55% of respondents think the implementation of Solvency II will lead to an increase in their workload/ opportunities.

[if !supportLists]·         [endif]On balance, the industry believes the current landscape is a helpful environment for (re)insurers looking to deal with their run-off liabilities (59% believe it is helpful).

Ends                                                                                   

Notes to editors

[if !supportLists]·         [endif]Dan Schwarzmann and Andrew Ward are available for interviews. Please contact Ellie Raven on +44 (0) 207 804 3553 or ellie.raven@uk.pwc.com

[if !supportLists]·         [endif]For more information on the report, please visit: www.pwc.com/surveyofdiscontinuedinsuranceeurope

 

About PwC
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September 2015 newsletter from Run Off & Restructuring
Welcome to the Run Off & Restructuring September 2015 newsletter

In this issue: Monte Carlo report; European run-off survey; Rhode Island business transfer regulations; Rescue Re appeal; and more…

Monte Carlo run-off seminar report

PwC released its ninth annual survey of European run-off in Monte Carlo, followed by a panel discussion, chaired by PwC’s Andy Ward, between Stuart Diffey from Zurich Insurance, Paul Corver from R&Q, Arndt Gossmann fromDARAG and Neil Wasserman from White Mountain Solutions. Ward began by asking the panel how their own experience had been in run-off over the last year. Diffey said he was still seeing lots of business in the UK with an increasing number of medical malpractice portfolios for sale as well as captives. Corver said that although the PRA is closed for business this year, R&Q have a lot of business in the pipeline including ‘lots in the captive fraternity.’ From a US perspective, Wasserman was seeing a decrease in the number of mid sized transactions, but an increase in the amount of workers’ compensation run-off portfolio transactions.

AGossmann
In reference to the disappointing lower priority being given at board level to run-off found in the survey results, compared to last year, the panel had a range of explanations. As far as Gossmann (pictured, right) was concerned, for many of the huge number of non-life companies in Europe, the implementation of Solvency II has brought with it ‘a huge amount of complexity and management time – more than had been thought’ with a subsequent down grading of the importance of run-off in the short term.

Corver pointed to what he felt remained the fundamental difference between UK and Continental Europe: ‘The UK had a shock 20 years ago, including with Lloyd’s, with the subsequent insolvencies and run-off. Europe is still behind.’

AWardWard (pictured, left) asked the panel what they felt the current mega deals in the live market would mean for run-off. Wasserman expected they would definitely lead to transactions, especially as there were ‘less reputational concerns for these new big companies.’ Corver agreed but felt there would be a time lag: ‘There will inevitably be an analysis of books but way down the line – Chubb, Ace and XLCatlin will all have legacy business but it will take some time to come through and be dealt with because the focus is on the amalgamation and management of the new business.’ Gossmann added that ‘it is all about redeploying capital after the deal is done,’ and that run-off will play a part in this.

In response to the question as to whether there was room in the market for more run-off acquirers Gossmann was unequivocal: ‘There is no  room for more competitors!’ Wasserman pointed out that although there was clearly a lot of capital interested in legacy business at the moment – including venture capital, private equity and hedge funds etc – ‘do people really want to deal with someone who has never done a deal before?’ Corver (pictured, right) agreed that ‘new capital needs the right expertise,’ while Diffey said he would prefer to see stronger existing players.

In the discussion round-up the panel were asked what they expected and would like to see happening in the run-off sector over the next year. Wasserman anticipated opportunities to arise from cyber risk while Diffey said he hoped to see the Rhode Island initiative bear fruit: ‘I would like to see Rhode Island put through a Part VII equivalent – there is more momentum with this initiative and everyone is keen to see it work,’ he stressed. Gossmann expected to see a significant shift towards larger transactions in Europe emanating from the larger players cleaning up their companies for 1/1/16 – ‘we will see a lot more fast and clear cut decisions’ – while Corver expressed the hope that the priority for run-off at board level would be up next year.

Appeal for partners to fund Rescue Re

Arndt Gossmann, CEO of DARAG, used the Monte Carlo run-off seminar to issue a plea for partners to join Rescue Re, an initiative to support a rescue boat for refugees in distress in the Mediterranean. He invited the re/insurance community to help fund the operation of the Phoenix, a search and rescue vessel run by the Migrant Offshore Aid Station (MOAS) based in Malta.

While the Phoenix usually patrols the sea between Libya and Malta in the summer months, the Rescue Re initiative would fund its continued operation through the winter months as well. Gossmann stressed that the project is a non-political, humanitarian effort purely aimed at avoiding deaths at sea, and that just a couple of partners would be enough to get the project off the ground.

More disposals likely in European run-off

The European run-off market has grown to about €247 billion, up by around €5 billion on the previous year, with the largest increase in the UK and Ireland. So says the ninth annual PwC Survey of Discontinued Insurance Business in Europe*, produced in conjunction with IRLA. It also finds mergers and acquisitions are set to increase, with 68 per cent of Continental European respondents expecting to see more than ten disposal transactions in Europe over the next two years. The majority of portfolio disposals, say 81 per cent of respondents, are likely to be between €10 million and €100 million.

Preparing for Solvency II was felt to be the biggest challenge facing Continental European re/insurers with run-off business. The proportion of organisations that classify some business written since 2010 as run-off has risen from 22 per cent in the seventh edition of the survey to 37 per cent in this ninth edition. Respondents identified the top three key objectives of their strategic run-off plans as being: 1) orderly run-off, 2) releasing capital, and 3) managing claim volatility.

Among those considering exit strategies, insurance business transfers appear to be the most popular option with 60 per cent of organisations in the UK and Ireland, and 57 per cent of organisations in Continental Europe, having looked at the transfer option. Respondents thought the greatest number of disposals were likely to take place in the UK and Ireland, with Germany the second most active area.

*Unlocking Value in Run-off – PwC Survey of Discontinued Insurance Business in Europe – Ninth edition

Rhode Island transfers could transform US market

Luann PetrellisLuann Petrellis of Ernst & Young* explains what insurers and reinsurers need to know about the insurance business transfer regulations just enacted in the State of Rhode Island

Since 18 August 2015, insurers face a significantly changed landscape in the massive commercial insurance run-off market in the United States. Newly enacted amendments to Insurance Regulation 68 in the State of Rhode Island (RI) have the potential to invigorate and transform the US market. Similar run-off legislation had just that effect on the UK run-off market over the last several decades.

Specifically, the new regulations provide expanded options for the management of run-off liabilities and, for the first time, bring finality to legacy liabilities. This article will outline the high-level impacts of the changes for insurers and reinsurers, including both the challenges and opportunities, and highlight a few effective steps they can take to ensure those firms considering the use of the new restructuring options establish a foundation for success.

A challenging landscape

The new regulation reflects the significant and longstanding challenges facing companies with commercial run-off business, including:

  • Access to exit mechanisms
  • Maintaining reputation
  • Capital constraints
  • Operational costs
  • Adverse loss development
  • Adverse impact to a company’s rating
  • Lack of skilled resources

In response to these challenges, larger insurance groups are rethinking organisational structures with a view to maximising the efficiency of capital deployed. However, both smaller property and casualty companies and large international insurance groups face a continual need to optimise capital deployments, as well as to efficiently manage run-off liabilities. Thus, the market is clearly ready to consider new tools and approaches to address the challenges of run-off businesses. These new RI regulations present an opportunity for firms to adopt such approaches.

Pursuant to Rhode Island Gen. Laws Section 27-14.5, the RI Department of Business Regulation has amended Insurance Regulation 68, providing for ‘Insurance Business Transfers’ (IBT), which are defined as the ‘transfer of liabilities and assets in accordance with the procedures delineated in this Regulation.’ The amendments provide a carefully monitored, transparent process for the transfer of some or all of a company’s commercial run-off liabilities to a newly formed or re-domesticated RI company through a department-approved and court sanctioned novation process, which brings finality to the legacy exposures of the transferring company.

The IBT also provides an effective restructuring tool for insurers or reinsurers. IBTs can be used to:

  • Combine similar business from two or more subsidiaries, putting all into a single company.
  • Transfer business between third parties.
  • Separate out different books of business and place them into separate companies.

As a public policy matter, the amendments fill a huge void in the current regulatory environment for run-off business and are beneficial to all parties involved in the IBT transaction. The transferring and assuming companies receive value relative to their long term interests and finality through the statutory novation effected by the court order. The policyholders and/or reinsureds in the transferring business benefit from the focused management of the assuming company and the oversight of the RI Department of Insurance (RI DOI).

Currently, the assumption and novation regulations in the US are restrictive and significantly limit the options available to owners of run-off companies to pay their obligations to policyholders and terminate their exposure to future liability. As a consequence, capital is trapped and unable to be deployed for more beneficial purposes. The importance of the IBT transaction is the ability to provide a fair solution that balances the needs of all the company’s stakeholders. The RI amendments allow companies with run-off business to distance themselves from these liabilities in a fully transparent manner, while also providing security to policyholders. The key is a closely monitored transfer process that must be reviewed and approved by the RI DOI as well as judicial authorities.

Consistent with the strong policyholder protections in US law, the amendments include provisions that address policyholder concerns. For instance, the statute has specific notice requirements for policyholders and other specified parties. Also, the IBT approval process requires:

  • Extensive disclosure of financial information of the assuming company.
  • An expert report that will evaluate the impact to transferring policyholders and non-transferring policyholders.
  • An independent evaluation by the RI DOI.

Most importantly from the standpoint of policyholder protection, there is complete judicial review of the IBT plan. Before the transaction will be approved, the assuming company must present evidence to the court that the transfer does not have a material adverse effect on policyholders.  Any party who feels adversely affected by the transfer can make a representation to the court for consideration. Once approved, the assuming company is subject to the continuing authority of the Rhode Island Insurance Department.

Lessons learned from the UK

A similar process [known as Part VII transfers] has been available in the United Kingdom for many years and has resulted in hundreds of successful transfers of business. Building upon the UK process, the RI amendments permit more efficient management of transferred books of business, and allow dedicated capital and focused solutions to be applied to run-off liabilities. While providing a reasonable framework for transfers of insurance business, the amendments also provide sufficient safeguards for policyholder protection resulting in fair outcomes for all involved parties.

How it works

The IBT process is initiated by the assuming company submitting an IBT plan to the RI DOI for approval. The requirements, as stipulated by the regulation, include an expert report that opines on the potential impact to various groups of policyholders and an approval of the transfer by the domiciliary state of the transferring company. Once the RI DOI has approved the plan, the assuming company may file a petition with the Providence County Superior Court for approval of the transfer. The assuming company must comply with the broad notice requirements set forth in the statute, which include notifying all policyholders at their last known address.

Once approved by the court, the IBT results in a DOI-approved and court-sanctioned novation of the transferred policies, releasing the transferring company from liability under the transferred policies. While loss portfolio transfers and reinsurance provide some economic finality, the IBT will provide economic and legal finality to the transferring company.

Good planning and project management of an IBT are essential to navigating certain risks and potential stumbling blocks in the process. Early contemplation of potential obstacles can make a significant difference. For companies promoting the transfer, the objective must be to minimise risk of objection and to achieve regulatory and court approval of the transaction. Therefore, companies should invest time identifying potential challenges that may be raised by various parties. Once these have been identified, companies should devise a strategy to address potential objections.

Effective approaches are likely to include:

  • A communication plan designed to clearly define the business being transferred, the purpose of the transfer and the impact on potential objectors. The communication plan must also flesh out as early as possible the concerns of potential objectors which can then be addressed, if necessary, on a one-to-one basis.
  • A strategy for addressing the concerns of and engaging potential objectors to secure their support, which may include amendments to operational and/or capitalisation plans.
  • A contingency plan for dealing with key objectors, who are unlikely to support the transfer, which may include commutation, novation or exclusion from the transfer.

How the RI IBT differs from Vermont’s Legacy Insurance Management Act (LIMA)

While all the differences between the IBT and Vermont’s LIMA are beyond the scope of this article, it is important to point out some key distinctions between the two transfer processes.

The LIMA approval process is solely regulatory. The approval of the transfer is effected by the Final Order of the Vermont Insurance Commissioner. In contrast, the RI IBT process requires an independent review and approval of the RI Insurance Department as well as review and approval by the Superior Court for Providence County, RI.

Unlike the IBT, which is broad in scope, a LIMA transfer is restricted to closed blocks of non-admitted commercial property and casualty insurance business. Also, under LIMA, to be considered a ‘closed block’, all such business is required to have been expired for not less than 60 months and have no active premiums yet to be paid. The requirement that qualifying reinsurance must have no active unpaid premium outstanding may create a practical impediment against including reinsurance in the transfer, in light of the possible long tail of premium payments under some contracts. Under the IBT there is no requirement that there be no active premiums to be paid, avoiding the potential problem of disqualifying reinsurance from the transfer.

The IBT process impacts a court-ordered novation of all transferring policies and reinsurance agreements providing the potential for economic and legal finality for the transferring company.  The Final Order issued pursuant to LIMA effects a statutory novation of only those policies and reinsurance agreements in the closed block that have not been excluded from the transfer by opt out or otherwise, significantly limiting the ability of the LIMA transfer to provide finality.

Bottom line

The experience of the UK run-off market has proven that a well-designed IBT process can be an effective restructuring tool for insurers and reinsurers, while still providing adequate protections for policyholders. Now, for the first time, US insurers can achieve finality with respect to their run-off businesses, which will help them address challenges related to the optimal use of deployed capital.

* The views expressed herein are those of the author and do not necessarily reflect the views of Ernst & Young LLP or the global EY organisation. Luann Petrellis provides insurance advisory services in connection with the RI Amendments to Insurance Regulation 68 for Ernst & Young LLP in New York. She can be reached at luann.petrellis@ey.com.


A Guide to Part VII Transfers
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Asbestos: The Future Risk

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News in brief – click on the headlines to read stories in full

Rise in US asbestos payments

Fresh appointments at DARAG

Insurers face last minute Solvency II requirements

Deafness claims rise again

California insurance regulator joins Locke Lord

Professional indemnity specialists join Carter Perry Bailey

Rhode Island to allow transfers prior to commutation plan

RiiG launches Claims Academy

Ben Baker to head IRLA Academy

Independent scheme approved

Three senior hires at DARAG

ILS market to double in five years

IRLA to stage mock Joint Settlement Meeting

Dubai to host new run-off event


Fracking – Risks and Rewards

A special report from Run Off & Restructuring
Click here to read the review in the latest issue of AIRROC Matters

Fracking FCA game-changing energy revolution or a risk-filled dash for gas? Fracking, the controversial technique of hydraulic fracturing to extract shale gas, has become one of the most divisive issues of the 21st century.

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Diary dates

24 September
AIRROC Regional Education Day
Chicago, Il, USA
www.airroc.org

1 October
IRLA Mock Joint Settlement Meeting
City Grange, 8/14 Coopers Row, London EC3N 8BQ
www.irla-international.com

7 October
Understanding Non-Life Re/Insurer Financials & Key Ratios
Central London
www.litmusanalysis.com

18-21 October
AIRROC NJ Commutations & Networking Forum 2015
New Brunswick, NJ, USA
www.airroc.org

11 November
UAE Run-Off Forum
DIFC Congress Centre, Dubai
http://uaerunoff.com/

24 November
IRLA Academy – Mergers & Acquisitions
Imparando, 55 Commercial Road, London E1 1LP
www.irla-international.com

For details of more upcoming events seewww.runoffandrestructuring.com/events


The Run Off & Restructuring Yearbook & Directory 2016 is coming soon!

To read the 2015 edition including feature articles click here.

The 2015 edition contains articles on exit strategies, asbestos liabilities, model validation for Solvency II and the potential risks of fracking, plus features on recent developments in the US and in Continental Europe

To read the Yearbook & Directory as an e-magazine click the cover image.

To search the Online Directory of Service Providers at www.runoffandrestructuring.com click here



New World of Run-off (Click to read Full PDF)

Effective August 18, 2015, companies with U.S. commercial runoff business will have a new tool to energize the management of their runoff business. The Rhode Island Amendments to Insurance Regulation 68 provide for “Insurance Business Transfers” (IBT). The IBT is a carefully monitored, transparent process for the transfer of some or all of a company’s commercial runoff liabilities to a newly formed or re-domesticated Rhode Island company through a department approved and court sanctioned novation process. The IBT represents a means to bring finality to runoff while protecting policyholders and ensuring the integrity of the regulatory process. The Amendments to Insurance Regulation 68 fill a huge void in the current regulatory environment for runoff business and provide a reasonable framework for the transfer of commercial runoff business while also providing sufficient safeguards for policyholder protection resulting in a fair outcome for all parties involved.

Click here to read more about what insurers and reinsurers need to know about these new regulations.

To keep current on insurance industry issues, please visit www.ey.com/us/insurance.


The New World of Run-off

Written by Luann Petrellis

Something new and important is coming to the $200 billion plus run-off market in the US! Proposed amendments to Insurance Regulation 68 are pending in the State of Rhode Island (RI) and are expected to be approved later this year. These amendments have the potential to invigorate and transform the market, similar to what has occurred in the UK run-off market over the last several decades resulting from the introduction of new run-off legislation. The RI regulations will provide expanded options for management of run-off liabilities and for the first time bring finality to legacy liabilities.

There are major challenges facing companies with P&C run-off business. These challenges include access to exit mechanisms, maintaining reputation, capital constraints, operational costs, adverse loss development, adverse impact to a company’s rating, and lack of skilled resource. The larger insurance groups are rethinking organizational structures with a view to maximizing the efficiency of capital deployed. Whether the entity is a small P&C company or an international insurance group, there has been a continual need for effective restructuring tools to optimize capital deployment as well as to manage run-off liabilities. Clearly the market is ready to consider new tools and approaches to address the challenges of run-off business.

Pursuant to Rhode Island Gen. Laws Section 27-14.5, the RI Department of Business Regulation has published Proposed Amendments to Insurance Regulation 68, providing for “Insurance Business Transfers” (“IBT”), which are defined as the “transfer of liabilities and assets in accordance with the procedures delineated in this Regulation.” The amendments provide a carefully monitored, transparent process for the transfer of some or all of a company’s commercial run-off liabilities to a newly formed or re-domesticated RI company through a department approved and court sanctioned novation process bringing finality to the legacy exposures of the transferring company. The IBT also provides an effective restructuring tool for insurers or reinsurers. IBTs can be used to 1) combine similar business from two or more subsidiaries, putting all into a single pot; 2) transfer business between third parties; or 3) separate out different books of business, putting them into separate companies.

As a public policy matter, the proposed amendments fill a huge void in the current regulatory environment for run-off business and are beneficial to all parties involved in the IBT transaction. The transferring and assuming companies receive value relative to their long-term interests and finality through the statutory novation effected by the Court Order. The policyholders and/or reinsureds in the transferring business benefit from the focused management of the Assuming Company and the oversight of the RI insurance department.

Currently the assumption and novation regulations in the U.S. are restrictive and significantly limit the options available to owners of run-off companies to pay their obligations to policyholders and terminate their exposure to future liability. As a consequence, capital is trapped and unable to be deployed for more beneficial purposes. The importance of the IBT transaction is the ability to provide a fair solution that balances the needs of all the company’s stakeholders. The RI Proposed Amendments allow companies with run-off business to distance

themselves transparently from these liabilities, while also providing security to policyholders through a closely monitored and judicially approved transfer process.

Consistent with the strong policyholder protection that currently exists in U.S. law, the proposed amendments include provisions that address policyholder concerns. To protect policyholders the statute has specific notice requirements that provide for notice to policyholders and various other specified parties. Also, the IBT approval process requires 1) extensive disclosure of financial information of the Assuming Company; 2) an expert report that will evaluate the impact to transferring policyholders and non-transferring policyholders; and 3) an independent evaluation by the Insurance Department. Most importantly, there is complete judicial review of the IBT Plan and, before the transaction will be approved, the Assuming Company must satisfy the Court that the transfer does not materially, adversely affect policyholders. Any party who feels adversely affected by the transfer can make a representation to the Court for consideration. Once approved, the Assuming Company is subject to the continuing authority of the RI Insurance Department.

A similar process has been available in the United Kingdom for many years and has resulted in hundreds of successful transfers of business. Building upon the UK process, the RI proposed amendments will permit more efficient management of transferred books of business, and allow dedicated capital and focused solutions to be applied to run-off liabilities. While providing a reasonable framework for transfers of insurance business, the proposed amendments also provide sufficient safeguards for policyholder protection resulting in a fair outcome for all parties involved.

The IBT process is initiated by the Assuming Company submitting an Insurance Business Transfer Plan (Plan) to the RI DOI for approval. The regulations set forth the requirements of the Plan, which include an expert report that opines on the potential impact to various groups of policyholders and an approval of the transfer by the domiciliary state of the Transferring Company. Once the DOI has approved the Plan, the Assuming Company may file a Petition with the Rhode Island Superior Court for approval of the transfer. The Assuming Company must comply with the broad notice requirements set forth in the statute, which include a requirement that notice be given to all policyholders at their last known address. Once approved by the court, the IBT results in a DOI approved and court sanctioned novation of the transferred policies, releasing the Transferring Company from liability under the transferred policies. While loss portfolio transfers and reinsurance provide some economic finality, the IBT will provide economic and legal finality to the Transferring Company.

Good planning and project management of an IBT are essential. There are certain challenges to be tackled in pursuing an IBT and early contemplation of potential obstacles makes all the difference. For companies promoting the transfer, their objective is to minimize risk of objection and to achieve regulatory and court approval of the transaction. Therefore, companies are well-advised to spend time up-front identifying where the risks of challenge may come from. Once the potential challenges have been identified, including identifying the parties which may bring them, a strategy is required to address potential objections such as:

• A communication strategy designed to define clearly the business being transferred, the purpose of the transfer and the impact on potential objectors. The communication process must also flesh out as early as possible the concerns of potential objectors, which can then be followed up, if necessary, on a one-to-one basis.

• A strategy for addressing concerns of potential objectors to secure their support, which may include amendments to operational plans or capitalization.

• A contingency plan for dealing with key objectors who will not support the transfer, which may include commutation, novation or exclusion from the transfer.

As the UK experience has proven, the IBT provides an effective restructuring tool for all insurers. In addition, for the first time in the US an insurer can achieve potential finality with respect to its run-off business through an IBT to a third party RI Commercial Run-off Insurer.

 

Published (date place)