CAS Financial Reporting

1. Liquidation vs. going concern (PoV of users according to their intended uses)
   1. Investors: value of business as a going concern (value of A&L if continue to operate)
   2. Regulators: satisfying p.h. obligations (value of A&L if forced to shut down today -> runoff view
2. Fair value vs. historical cost (method of valuing of A&L)
   1. FV: value it would be bought or sold for in open market, i.e. current MV
   2. HC: original purchase price less depreciation
   3. trade-off: HC is easier to obtain and verifiable; FV is more accurate
3. Principle-based vs. rule-based (accounting framework)
   1. principle: general accounting approach that must be interpreted and applied
   2. rule: specific guidance on how something should be done / accounted for
   3. Trade-off: rule easier to understand and audit; principle more adaptable to changes

• Objective:
  • GAAP: measure earnings from period to period (matching revenue to expense),
  • SAP: measure ability to pay claims in the future
• intended users:
  • GAAP: to meet various needs of dif users of f.s.
  • SAP: concerns of regulators (primary users of statutory f.s.)
• Asset recognition:
  • GAAP: recognized certain assets such as DPAE
  • SAP: treats it as expense when incurred
• Deferred income taxes:
  • recognized by GAAP but not SAP.

• Align eco and regulatory capital and recognize diversification
• Freedom for companies to assess own risks and allocate appropriate level of capital

• Pillar 1 Quantitative requirements:
  • adequate RBC, using Standard Formula or internal model
  • valuation done in a prudent and market-consistent manner
• Pillar 2 Qualitative requirements:
  • imposes higher standards of risk mgt and governance (ORSA)
  • gives supervisors greater powers to challenge firms on risk mgt issues
• Pillar 3 Disclosure requirements:
  • greater transparency for supervisors and public.
  • more disclosure through internal reports and external reports to regulators / public

• Methodology:
  • MCT: Rules based; SII: Principles based
• Correlation among risk categories
  • MCT: A diversification credit is used; SII: Consider correlation within and across risk categories
• Operational risk:
  • MCT: Based on a formula based on premiums; SII: Explicitly modeled

• similarities:
  • calibrated to VaR 99.5% over 1-year
  • incl UW risks, counterparty default risks, market risk, operational risk
• differences:
  • standard formula:
    • used by all companies to determine min
    • used by companies not allowed to use internal model to determine supervisory and own target
    • based on prescribed set of factors applied to BS exposures
  • internal model:
    • tailored to risk profile
    • must be approved by supervisor
    • must pass use test

• Standard formula if mgt believes factors appropriately reflect risk profile.
• internal model if risk profile deviates substantially from that of standard formula
• In ORSA, disclose difference in calculated MCR and SCR using 2 approaches

• Solvency capital req't (SCR) and min capital req't (MCR) using total BS approach; SCR > MCR
• SCR is required at all time (1-year 99.5% VaR). calculated using standard model, approved internal model or a mix
  • if capital < SCR, subject to regulatory intervention.
  • If capital < MCR, not permitted to operate

1. Internal audit: report to board on deficiencies of internal controls and compliance with policies and procedures
2. Actuarial: reasonability of methods and assumptions in calculating technical provisions and reinsurance arrangements.
3. Risk mgt: Monitor risk mgt function and maintain agg view. Ensure integration of internal model with risk mgt
4. Compliance: Ensure effeciveness of internal control. report issues to board

ORSA: entire processes and procedures to id, assess, monitor, manage, and report risks determine funds to ensure solvency at all times. should contain at a min:

1. solvency needs based on risk profile, risk tolerance and business strategy
2. Compliance with requirements on capital and technical provisions
3. extent that risk profile deviates sig'ly from assumps u/l SCR

Disclose

• capital and regulatory position to supervisor based on pillars I and II
• solvency position to public which increases market discipline

Monitor and promote solvency of insurer

• OSFI covers all FRFIs and not just insurers. and has authority over entities it regulates
• NAIC is a coordinating body that works with state regulators on regulation of multistate insurers

1. Assets of foreign branches are controled by Minister of Finance, determined by BAAT, and placed in a trust.
2. No share capital account, as entity is operating as a branch; therefore, there is a HO account instead.

• Process in which one party is relieved of its obligations in respect of the claim in exchange for a cash payment
• Seller:
  • Assets: Cash decrease for payment to buyer
  • Liab: Reduce unpaid claims by amount of obligation
• Buyer: Reverse process
  • Assets: Increase cash
  • Liab: Unpaid increase for obligation

• reinsurer commutes liability back to cedant and pays a fee
• insurer:
  • suspect reinsurer creditworthiness
  • decrease expenses cost
  • receive a cash flow right away
  • expect more favorable loss development than planned
  • more efficient to handle claims themselves
• reinsurer:
  • Bring certainty to results
  • Capital relief (lower UW leverage)
  • savings in claims adjusting and admin costs
  • wish to exit the market
  • required after wind-up

• insurer advantages:
  • Removes concern over credit worthiness of the reinsurer
  • decrease expenses
• insurer disadvantage:
  • Have to hold capital for additional risk (support the liabilities)
  • Risk of future adverse loss experience
• reinsurer advantages:
  • capital relief
  • savings in claims adjusting and admin costs

• Financial:
  • Amount and timing of CFs
  • Discount rate to be used
  • Cost inflation
  • Cost of Capital
• Nonfinancial:
  • Morbidity or mortality of the claimant(s),
  • Current and future entitlements of the claimant(s)
  • Unfavorable court decisions

• Expected timing of payout of undiscounted loss and LAE
• Expected II on assets supporting these CFs
• Income tax
• Appropriate risk load to provide for volatility

• UEP: net of proportional reins
• XOL reinsurance costs: on unexpired policies
  • method: subseq year’s XOL rates * UEP
• Expected losses and LAE: for unexpired portion on AAP basis
  • method: select expected AAP LR based on history, or by forecast expected CFs, discount these and add PfAD
• Expected internal LAE: with settling these claims.
  • method: internal LAE ratio based on history
• Expected maintenance expenses: cost of servicing these IF policies (policy changes, customer inquiries)
• Contingent commissions: if meeting volume / profit targets
• Net liability recorded = UEP + unearned commissions - DPAE asset
• Unearned commissions: from proportional reinsurance not yet earned
• Max net DPAE: given expected costs and liability already recorded.
  • If higher recorded, down to <= amount calc'd
  • If <0, premium deficiency reserve

Compare estimate of ultimate costs associated with the unexpired portion of the policy against premium liabilities recorded by the company