Relationship between Reinsurance Activities and the Financial Performance

Relationship between Reinsurance Activities and the Financial Performance of General Insurance Companies in Malaysia NURUL AMIRA BINTI MOHAMAD AZMAN KHOR LIAN PENG ZAWATIL ISYQI BINTI MOKHTAR

1. INTRODUCTION • Insurance: a contract arranged between two parties; the policyholder and the insurer - allowed compensation for specified loss. • Reinsurance: a further step to risk-spreading activities. Also known as insurance for the insurers (Baur & Breutel-O'Donoghue, 2004) • Reinsurance helps to reduce their underwriting risk of an insurance company. • In addition to protecting insurers, it help in financing economy growth of a country.

1. INTRODUCTION • BNM reported insurance industry in Malaysia contributed up to 20. 9% to Malaysia’s total gross national income (GNI) 2016 – insurance industry is one of the main contributions among financial services. • Major lines of businesses (general) are motor, medical and personal accident, than oil and gas business. • (Ministry of Transport) – road accidents increased 7% on 2016 (489, 606 to 521, 466). - total death increased 7% on 2016 (6, 706 to 7, 152) - September, 2017: 5, 083 deaths from 400, 788 road accidents. • PIAM – total motor insurance claims amounted to RM 5. 38 bil (RM 14. 7 million per day) on 2017 for property damage, bodily injury & vehicle theft by all motor insurers.

2. LITERATURE REVIEW Determinants of financial performance: a) Firm’s dependency on reinsurance – a form of transferring insurers’ risk to reinsurers. • Motivated by an underinvestment problem to prevent bankruptcy. Reduced the chance of losses which allowed them to issue more portfolios without an increment in their capitals. • In contrast with Obonyo (2013) – reinsurance lead to additional cost, hence reduce potential profitability. b) Firm’s size • Larger insurance companies have higher operational efficiency and cede less risks to reinsurers. c) Solvency margin – measure of assets in excess of the obligations or debts • Insurers with high solvency margin attracts more policyholder to purchase their contract. Hence increase the available funds for other investment or operating purpose.

Empirical review Journal name Article’s tittle Author(s)/y Methodologies Result(s) ear Economics and Reinsurance and the Aduloju & Correlation Analysis Business Ajemunigbo Performance of the There is positive significant relationship between reinsurance utilization measured through reinsurance ceded ratio (RCR) Ceding Companies: The hun (2017) and underwriting capacity, measured through gross premium Nigerian Insurance written (GWP) as well as financial stability, measured through Industry Experience policyholder’s surplus. There is positive significant relationship between reinsurance utilization (RCR) and underwriting profit measured through return on asset (ROA) and return on equity (ROE).

- The Effect of Obonyo Multicollinearity test; Reinsurance (2016) Multiple linear regression ratio and underwriting profit. Programmes on There is insignificant negative relationship between retention Financial Performance There is significant negative relationship between net claims ratio and underwriting profit. of General Insurance Companies in Kenya There is significant positive relationship between net commission ratio and underwriting profit. Ismail Determinants of Review of Financial Performance: (2013) square with non- model for takaful and insurance. Business The Case of General effects, fixed effects One of the determinants, retakaful dependence (RTCTA) and Research Takaful and Insurance and random effects; reinsurance dependence (RICTA) showed significant positive Papers Company in Malaysia Breusch Pagan relationship at 1 percent level with investment yield. Lagrange Multiplier LM test and likelihood ratio resulted in significant values for (LM) test, likelihood takaful and insurance and hence, fixed effects model is better ratio test and than pooled model. Further test with Hausman test. concluded with fixed effect model as the most appropriate Generalized least- International The findings are best on the selected model: fixed effects model for takaful and insurance.

Insurance Reinsurance and Firm (2012) squares (2 SLS) return on asset (ROA) with reinsurance dependence (REINS), Economics Performance: Evidence regression; and reinsurance dependence (REINS) with return on asset F-test, Lagrange (ROA), there is a statistically negative effect for both models. Property-Liability Multiplier (LM) and From F-test, OLS-fixed effect is superior than normal OLS Insurance Industry Hausman Test. while from LM-test, OLS-random effect is superior than Two-stage least An Analysis of from the Taiwan Lee & Lee Study of In relationship between firm’s performance measured with normal OLS. Further test between OLS-fixed effect and OLSrandom effect with Hausman test resulted with OLS-random effects to be more preferable.

3. RESEARCH METHODOLOGY Variables Formula Derived Reinsurance Recoverable to [Ceded Reinsurance Recoverable (CRR) + Ceded Unearned Policyholder’s Surplus Ratio Premium (CUP) + Ceded Commission (CC)]/Policyholders’ Surplus (PHS) Retention Ratio Net Written Premium (NWP)/Gross Written Premium (GWP) Net Claim Ratio Net Claim Incurred (NCI)/Net Premium Collected (NPC) Return on Asset Profit After Taxes (PAT)/Total Assets (TA)

(CONTINUE) Analytical Model

(CONTINUE) Data • Employed secondary data extracted from the statutory returns filled by the insurers companies in Malaysia to Bank Negara Malaysia. I. e. net claims incurred, net written premium, profit after tax, etc. • Involved 16 out of 21 registered general insurance companies (as in March 2018), accounting for 76. 19% response rate. . • Excluded insurers: 1. AM General – unavailability of data for 2012 and 2013 2. Danajamin Nasional – financial guarantee insurance 3. Liberty – inconsistency on the period of the annual report 4. Etiqa General & Zurich General – yet to separate life, general and investment linked activities into different businesses •

4. DATA ANALYSIS, FINDINGS AND DISCUSSIONS Skewness and kurtosis measure all between ( -2. 0, 2. 0). Normally distributed.

(CONTINUE) Inferential Analysis •

(CONTINUE) After Cochrane Orcutt Correction Method •

(CONTINUE) Interpretation on Findings •

(CONTINUE) Interpretation on Findings • ROA = 0. 045 + 0. 012 RRPHS + 0. 05 NRR – 0. 12 NCR. • RRPHS is not significant predictor. • VIF values are lesser than 10, multicollinearity is not a problem.

(CONTINUE) Conclusion Dependence on reinsurance does not always lead to a better performance (double-edge sword). Excessive purchases indicates inability to measure risk properly. Less purchases might deteriorates profit and depletion of investment incomes or shareholder’s surplus.

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