Manage the transition now

According to S&P Global Ratings, the world's insurers face the biggest change in accounting standards in perhaps 20 years with the International Financial Reporting Standards 17 (IFRS 17), which comes into force in 2021.

S&P Global Ratings believes insurers should start to manage the transition now through increased communication to the market in order to educate outside stakeholders on the new standard and ensure broad acceptance.

FAnews spoke to Trevor Barsdorf, Analyst at S&P Global Ratings, to tell us more about the IFRS 17 and what it means for life and non-life insurers. 

The purpose of IFRS 17 

“The idea behind IFRS 17 is to align insurance reporting to the wider corporate reporting practices. Another aspect is to align reporting for life and non-life insurers, which displays some discrepancy under the current IFRS 4,” says Barsdorf. 

“One key aspect of IFRS 17 is the market's consistent view of assets and liabilities, removing the mismatch of market values for assets but book values for liabilities. This is following a similar idea of a market consistent balance sheet like, for example, solvency II in the European Economic Area. However, for life insurers in regions without a market view on life insurance liabilities, there might be a material change,” continues Barsdorf. 

How will this affect insurers

IFRS 17 is a major change in accounting and reporting for life and non-life insurers, says Barsdorf. “Some accounting metrics used for all history like premium income, technical expenses and underwriting profit will vanish.”

“At the same time new metrics like contractual service margin will be introduced. Especially for life insurers the so-called retroactive approach requires a very complex assessment of all existing life insurance contracts to be analyzed by any cohort of business in the past, year by year and bucketed into non-onerous contracts, potentially onerous and non-onerous contracts. The new metrics might require the development of new operating metrics to manage insurers. This potentially might lead to an impact on how those insurers are managed,” states Barsdorf.

“There is not necessarily any impact on the back book of insurers. IFRS 17 is changing the way to account for profits and losses and capital consumed by existing business, but it does not interfere with any insurance contracts. The standard might increase transparency around onerous and not so onerous contracts. As a secondary effect, insurers might re-consider their involvement into specific kinds of insurance contracts and might change their stance to new business in those lines in either direction,” he says.

The challenges ahead

“The IFRS 17 involves a high level of complexity, including the analysis of life insurance back books. Larger insurance groups will have an opportunity to introduce the standard for all subsidiaries. Whilst IFRS 17 and solvency II both have a market consistent view of the balance sheet, there are many differences in the detail,” continues Barsdorf.

“Non-life insurers will see the challenge to still report traditional metrics like combined ratios, whilst those no longer can be derived from the profit and loss accounts. For life insurers the full retroactive approach, requiring detailed data on all life insurance back books might be a major challenge. The complexity of this analysis, even if the data is available, cannot be underestimated. The limited time horizon to implementation also is a challenge given the complexity of the project. Following close to two decades of preparation for the new standard, insurers now have less than three years left to implementation,” emphasizes Barsdorf.

Steering groups, Barsdorf says, have been formed at an industry level as the industry seeks to understand the treatment and practical implications for insurance reporting and wider functions.

Why manage the transition now?

Barsdorf says the timeline to implementation, as per 1 January 2021, appears ambitious provided the fundamental change to accounting and reporting.

“The implementation project in many cases will be very complex, ranging from monoline non-life insurance groups with one main risk carrier in one region to global multiline insurers with exposure to multiple regions, involving many risk carriers and exposure to life insurance. Besides internal projects to produce the numbers and process in reporting systems, new key performance indicators might evolve,” he says.

“The implementation might be costly for insurers, depending on the complexity of the group. We would assume generally higher costs for life insurers versus non-life insurers. But there is limited read across from compliance expenses and costs for implementing the new accounting standard. We might observe insurers who are not obliged to report under IFRS considering a return to local GAAP only. However, in some jurisdiction’s insurers will be obliged to report under IFRS and in many regions listed insurance groups also must report under IFRS. Thus, for some insurers IFRS 17 will come on top of mandatory local GAAP reporting leading to some extra costs. The degree of complexity also adds to implementation costs. However, we estimate that in most cases implementation cost will not be material enough to affect any rating scores,” says Barsdorf.

“IFRS 17 will bring a fundamental change to insurance accounting and reporting, and potentially leads to the development of new key performance indicators (KPIs). With that internal stakeholders have to understand the new metrics to manage the company as intended by management. External stakeholders have to adjust following a multi-year track record of insurance reporting metrics also used in other reporting regimes like local, statutory GAAP and US-GAAP, e.g. premiums, technical expenses etc., and get familiar with new metrics like the contractual service margin (CMS). As IFRS 17 requires some assumptions around profitability of existing insurance contracts and new business, those assumptions should be transparent to stakeholders. We believe, to have a comparable and consistent view as an external stakeholder, ideally there might be a common set of data consistently disclosed by insurers,” states Barsdorf.

“We would assume some need to educate external stakeholders including investors with some leeway before implementation data to some of the changes and indicate any material changes to reported shareholders equity and annual net profit early,” he continues. 

Editor’s Thoughts:
As Barsdorf says, the potential change here is not necessarily a negative impact. IFRS 17 will be there to improve the decision making on managing assets and steering of new business. So, with less than three years to implementation, is there enough time for insurers to manage the transition now, to educate stakeholders on the standard and to ensure broad acceptance? Please comment below, interact with us on Twitter at @fanews_online or email me your thoughts myra@fanews.co.za.