Primary insurers face a constant battle to optimize capital and facilitate operational efficiencies. Legacy exposures such as mass tort cases can strain balance sheets, distort actuarial analyses, and require much risk capital to absorb. Adverse development covers a finite insurance contract where the cedant shifts the timing of losses that have already occurred and those that have been incurred but not yet reported.
Adverse development cover is an excellent way to offload this risk. This type of coverage is available as a stop-loss treaty or as a working excess-of-loss treaty.
Reduces Risk of Capital Loss
In addition to reducing the risk of capital loss, adverse development covers can also help facilitate mergers and acquisitions. The ability to offload timing and reserves development risk allows the acquiring company to assess the target business without performing full actuarial due diligence.
For primary insurers, maintaining adequate levels of technical reserve is critical for balance sheet certainty. However, this can require significant amounts of capital – which may be locked up in non-core portfolios or legal entities that limit growth potential.
Retroactive reinsurance solutions like quota share and adverse development cover can free up that capital to improve operational efficiencies, access additional rating capital relief, reduce liquidity needs, or support the business plan. Utilizing these solutions also helps ensure the right level of risk exposure at a fair price.
Like Loss Portfolio Transfers (LPTs), adverse development coverage allows a captive to offload timing and reserves development risk from its balance sheet. However, unlike LPTs, this type of coverage also transfers the risk of incurred but unreported (IBNR) losses and the likelihood that future loss reserve increases will be lower than expected. This type of coverage is typically arranged as a stop-loss treaty or a working or catastrophe excess-of-loss treaty. It can significantly reduce the need for actuarial due diligence when executing acquisitions.
Achieving the right level of technical reserves is critical for primary insurers to optimize capital, enjoy solvency capital relief, gain rating capital relief, and facilitate operational efficiencies.
Reduces Capital Needs
Insurers often need significant amounts of capital to manage their risk effectively. In addition, a non-core portfolio or legal entity can drain resources and impede growth potential. Reinsurance provides a way to free up resources and reduce the capital required by these entities. Adverse development cover, a type of retroactive reinsurance, allows insureds to transfer the timing and loss reserves development risks associated with their legacy portfolios to (re)insurers.
For example, in 2017, AIG commutated an adverse development coverage agreement with one of its Enstar Group subsidiaries, providing 400 million of protection over carried loss reserves in the legacy book it retained following the sale of Validus Re to RenaissanceRe. These arrangements can provide balance sheet relief, solvency capital relief, and rating capital relief, enhance operational efficiencies, support M&A activities, and enable you to pursue your strategic objectives.