Capitalisation hikes: New rules and greater competition are encouraging firms to combine efforts

There has been a flurry of talk recently over mergers and acquisitions as insurance companies are scrambling to raise resources in order to meet new, stringent capital requirements that have been put in place to shore up an otherwise fragmented market. “Five insurers have already signalled interest to merge,” the insurance commissioner, Emmanuel F Dooc, told the press in November 2011. “We told them to come up with a critical number so they can better pool their resources. The ideal number for the merger is 8-10 firms.”

However, there has been reluctance to merge even among larger players, some of which are family-owned or closely held, and reluctant to let go of their businesses, Dooc said, adding that some insurers have also cornered niche markets that they would be forced to let go of in a merger as products and services would need to be pooled in the surviving company.

DEADLINE LOOMING: The Insurance Commission has said talks began in late 2011 with the boards of interested insurers regarding a possible merger. Regardless of what happens, the paperwork for the deal will need to be completed by end-June 2012, the deadline for insurers to meet the minimum capital requirements. Those that fail to do so will not be issued a certificate of authority or a licence to operate for another year.

Dooc had also confirmed that eight of the country’s life insurers have been in talks regarding a mega-merger. The companies were in discussions in the fourth quarter of 2011 over different models of consolidation. There had been talk of forming a “super brokerage”, in which all parties would be required to inject equity of minimum P125m ($2.8m), thus bringing total capital to P1bn ($22.7m). The brokerage would be a sole corporate entity but individual stakeholders would continue to write their own policies.

Another option floated would be to form a cooperative-style body. But Dooc said the commission may not allow the life industry to compete with a cooperative-type insurer, which, he said, may be limited to writing polices to its members instead of the public. This in turn would mean a chunk of lost revenue for the national government. Another option would be smaller consolidations or mergers and acquisition between two to three insurers similar to what has been going on in the country’s banking industry.

HIGHER CAPITAL: In a bid to consolidate and strengthen the industry, minimum capital requirements were increased by the Insurance Commission and the Department of Finance (DoF) from P75m ($1.7m) to P125m ($2.8m) on December 31, 2010. The amount was raised again to P175m ($3.9m) at the end of 2011. Plans are in place for capital requirements to increase every year until they reach P500m ($11.4m) by 2015, when the ASEAN Free Trade Area (AFTA) comes into force. Competition is expected to be fierce as the AFTA opens the Philippine insurance market to companies from neighbouring South-east Asian countries.

Incoming players will enter the market on equal footing and local companies will need to be solid to stay afloat. The Philippine finance secretary, Cesar Purisima, has pointed out that Asia is home to some of the world’s most highly capitalised insurance firms, able to overtake domestic insurers “not only in terms of capital, but also in terms of expertise and products”.

MANY SMALLER PLAYERS: The country’s life insurance industry was deregulated in the 1980s and grew to nearly 50 players. The number had since dropped to 33 as of the end of 2011, as many had shut down when capital requirements started to increase in 2008. Meanwhile, the non-life sector is comprised of 84 operators. Only a handful of firms have cornered major stakes in both the life and non-life markets.

In 2010 the total insurance industry registered a total premium income of P70.7bn ($1.6bn), with the top 10 players accounting for about 80% of total. Antonio de Rosas, the president and CEO of sector participant Pru Life UK, told OBG that, “requirements are quite low in the sector, allowing for the proliferation of small insurance companies, which undermines the insurance industry’s credibility in the country. As the market grows, increased capitalisation requirements would facilitate needed consolidation within the sector.”

TAKING THE NECESSARY STEPS: The new capital requirements have started to shake up the mid-sized market. In early 2011, Empire Insurance and CCC Insurance informed the Insurance Commission of plans to consolidate, with the two non-life firms stating that meeting the minimum capital requirement of P175m ($3.9m) for 2011-12 alone would be too difficult.

Of the country’s non-life insurance firms, Empire Insurance ranked 62nd and CCC Insurance was ranked 57th in terms of premiums earned in 2010, with P53m ($1.2m) and P59m ($1.3m), respectively, according to data from the Insurance Commission. At the start of 2011, Empire Insurance had paid-up capital of P125m ($2.8m) while CCC Insurance was still below the mandated limit at P100m ($2.3m). Empire Insurance is expected be the surviving entity of the merger. Empire is controlled by the Santos family, which used to own then Prudential Bank before Bank of the Philippine Islands (BPI) acquired it in 2005.

Meanwhile, BPI – the country’s third-largest bank in terms of asset size – is merging two of its subsidiaries, BPI Capital Corporation (BPICC), an investment house, and BPI Bancassurance (BBI), to streamline operations. BBI, a fully owned subsidiary of BPI, markets life and non-life products. It posted a loss of P25m ($567,500) in 2010, according to a BPI financial statement.

ACQUISITIONS: The headline acquisition in 2011 was the Philippine unit of Canadian insurer Sun Life Financial’s purchase of 49% of Grepalife Financial, a Yuchengco-owned insurance unit. It then assumed management control of the resulting joint venture, Sun Life Grepa Financial. The price paid for the stake was not revealed. The new joint venture will enable Sun Life Financial Philippines to tie into Yuchengco-owned Rizal Commercial Banking Corporation (RCBC) to offer bancassurance under an exclusive distribution agreement.

Bancassurance has been generating growing demand over recent years. According to the Philippine Life Insurance Association, of the P343bn ($7.8bn) in first-year premiums in 2010, two-thirds was generated by bancassurance with the remainder provided through the conventional agency distribution channel. To set up a bancassurance deal in the Philippines, banks must have a 5% stake in the insurance company.

The Yuchengco Group of Companies, a business conglomerate that also includes the largest non-life firm, Malayan Insurance, will keep a majority 51% stake in the joint venture through GPL Holdings while Sun Life will have management control of the company.

STRUGGLING TO SURVIVE: There were reports in 2011 of more than 20 companies failing to reach the P125m ($2.8m) capital requirement by the deadline in March of that year. Indeed, non-life provider Equitable Insurance told the Insurance Commission that it will have to wrap up operations or sell off its assets. At the start of 2011, the company only had P100m ($2.3m) in paid-up capital. In 2010, it posted P72.4m ($1.6m) in premiums, placing it 48th among the 84 non-life insurers.

This is expected to be a common plight among insurers as the capital requirements continue to rise. The Insurance Commission said in 2011 that it was in talks with four other insurance companies that had missed the March deadline. The timeline for the renewal of licences was then effectively extended to June 2011, although a number of firms still struggled to meet this. Commission officials told the local press that one of the delinquent insurers had been offering up a slate of properties to raise funds to meet the requirement. However, in January 2012 the Philippine Insurers and Reinsurers Association (PIRA) was considering taking legal action against the capitalisation increases, with an estimated 30% of the industry expected to be unable to meet the March 2012 deadline.

CONTAINING THE FALLOUT: PIRA has argued that the mandated capital requirements are too high for small companies and a risk-based capital (RBC) framework should be used instead, whereby the capital required would be computed based on the amount of risk a company is willing to take. PIRA, the trade organisation of the country’s non-life insurance industry, has argued that about half of the non-life companies will be forced to shut down or merge once the capital limit is raised to P175m ($3.9m). Agency officials are concerned that the social fallout from this would be significant as most of the firms are family-owned. A number of sector players would prefer to see these smaller, family-run firms remain in the market, but with their activities limited to products and services for which they have appropriate levels of capital reserves.

According to PIRA, the RBC formula ensures that every risk or product is backed up by roughly 200% its worth in reserves or capital. Thus, the more products an insurer sells, the higher the capital and reserves the company must maintain. PIRA has said that RBC will allow the small companies with less appetite for risks to coexist with the big ones. Much in the same way as hypermarkets and corner shops serve different niches in the retail market, so different types of insurers can operate concurrently offering a wider variety of products.