Cell captives: Exponential growth expected
The growth of the cell captive industry over the past 17 years has been exponential and this growth is expected to continue over the next 10 years.
It is estimated that cell captives and rent-a-captives written by conventional insurers now constitute more than R10 billion of the South African insurance market in terms of premiums written. This is about 1/6th of all short-term premiums written, providing an indication of just how significant this type of business is.
The concept of cell captive insurance first appeared in South Africa in 1993 when two insurers, Guardrisk and Phoenix, registered as cell captives. These companies took on some existing business that had been written in rent-a-captive policies by traditional insurers. Phoenix changed its name to Mutual & Federal Risk Financing in 1999.
Understanding the concept
A cell captive is nothing but a short-term insurer with an unconventional structure made up of unique cells where different cell owners write insurance business.
The cell owners hold a unique class of shares which might either be an ordinary share or a unique class of preference shares which gives the cell owner an exclusive right to dividends. The promoter of the cell captive takes a fee, usually a proportion of premium and investment income, for renting its licence and providing the cell facility.
The cell captive arrangement is governed by a contract with the promoter, which stipulates that the profits earned is the property of the cell owner and not affected by losses in other cells. The promoter also undertakes to recapitalise the company if the cell is not able to pay a dividend because of losses made elsewhere.
Cell captives provide captive facilities for the following types of insurance opportunities:
• For insureds who wish to take a portion of a risk for themselves. A well managed risk portfolio of own risks does not need to cross-subsidise the losses of less well managed risks of other companies insured conventionally by the insurer. The insured therefore saves money in respect of the overall cost of risk.
• In certain instances an insured has a service or a product that they sell which might need insurance in order to be fully effective. A cell captive approach can allow the retailer to increase revenues.
• Cell captives are also able to offer underwriting managers cell ownership.
Capitalised or non capitalised
There are two types of cell captive arrangements. In a non capitalised cell, the promoting owner of the cell captive provides the capital for regulatory solvency out of their own funds. In a capitalised cell, the cell owner provides the capital.
Thus, capitalised cell owners must tie up capital that could be applied more effectively in their core business. The majority of cell owners therefore take the non-capitalised option.
Potential pitfalls
The pitfalls include the insured retaining their own risk when they cannot afford to take the losses they have assumed. Another challenge is the purchase of adequate cost effective reinsurance.
The decision to opt for a cell captive arrangement must be carefully considered in light of the company’s risk management procedures, and in consultation with a financial advisor who can assist them in planning for this type of business.
Regulation
The cell captive insurance company is regulated as a normal insurer under the Short Term Insurance Act and subject to the same legislation and measures applicable to the entire insurance industry. It is required to submit the same information as other insurers, plus certain additional information specifically about their cell owners, but this information is confidential and not publicly available.
