Management of credit risk associated with insurance contracts
Accounts receivable on insurance business are subject to credit risk. In order to limit this risk, we always take care to ensure that debtors are creditworthy, measuring this, for instance, in terms of standard market rating categories. We choose our reinsurers carefully from the standpoint of creditworthiness and constantly monitor these selections.
Accounts receivable from policyholders and insurance intermediaries are generally unsecured. The default risk on these receivables is subject to constant monitoring in connection with our risk management. This has to do with a large number of receivables in relatively modest amounts due from a diverse array of debtors. Most of these receivables are due from policyholders who do not have a rating. Only commercial clients in excess of a certain magnitude can provide independent assessments of their creditworthiness. Insurance intermediaries are either individual brokers or broker organisations, which likewise do not normally have a rating. Each Group company operates its own effective dunning process designed to reduce outstanding receivables that result from delays in or defaults on premium payments from policyholders direct or through intermediaries. Intermediaries are also subject to creditworthiness reviews.
Credit risk also arises in primary insurance business in connection with accounts receivable from reinsurers and in reinsurance business in connection with receivables from retrocessionaires, since gross written business is not always fully retained but instead (retro)-ceded as necessary. In passive reinsurance we pay close attention to ensuring that our reinsurers are financially very sound, especially in the case of long-tail accounts.
The Group counters the default risk associated with accounts receivable from reinsurers and retrocessionaires by having security committees carefully select reinsurance partners. These committees constantly monitor creditworthiness and, where necessary, take appropriate measures to secure receivables. Security standards are generally applied uniformly when selecting reinsurance partners. In the area of primary insurance, our wholly owned reinsurance broker Talanx Reinsurance Broker AG manages reinsurance cessions in accordance with security and placement guidelines by setting cession amounts and by regularly calculating absolute and relative cession limits while taking into account various default probabilities such as by duration of the reinsurance contract, rating and the reinsurer’s capital. To limit concentrations, an upper limit is set for each reinsurance group’s share of total loss provisions.
Default risk associated with reinsurance business is essentially managed on the basis of system-supported cession control: cession limits are set for individual reinsurance partners, and free capacities are ascertained for short-, medium-, and long-term business. Depending on the type of reinsured business and the anticipated run-off duration, the selection of reinsurers takes into consideration not just minimum ratings issued by the rating agencies Standard and Poor’s and A. M. Best, but also internal and external expert assessments (e.g. market information from brokers). In addition to standard retrocessions in Non-Life Reinsurance, Hannover Rück SE also transfers risks to the capital market.
In the three primary insurance segments, claims arising out of passive reinsurance, e.g. the cession of risks that we have assumed – the reinsurer’s share – amounted to EUR 4.7 (4.8) billion. The resulting reinsurer’s share of the loss and loss adjustment expense reserve amounted to EUR 3.5 (3.7) billion.
The ratings of counterparties to the reinsurer’s share of the loss and loss adjustment expense reserves at the Group level were as follows, cf. table N37.
Accordingly, 89 (83)% of our reinsurers are rated A or better. In determining the ratings, allowance has already been made for any collateral received – such as deposits or letters of credit.
Serving as the equivalent of the maximum exposure to default risk as at the balance sheet date, the book value of financial assets related to insurance business – irrespective of collateral or other agreements that serve to minimise default risk – was as follows (excluding funds withheld by ceding companies), cf. table N38.
|N38||BOOK VALUES OF FINANCIAL INSTRUMENTS ASSOCIATED WITH INSURANCE CONTRACTS|
|FIGURES IN EUR MILLION|
|Accounts receivable from policyholders||315||207||659||—||—|
|Accounts receivable from insurance intermediaries||307||110||64||428||—|
|Accounts receivable from reinsurance business||493||25||86||1,156||1,221|
|Reinsurance recoverables on technical provisions||3,571||773||386||1,277||589|
|Accounts receivable from policyholders||310||155||644||—||—|
|Accounts receivable from insurance intermediaries||345||148||57||397||—|
|Accounts receivable from reinsurance business||465||11||50||1,151||1,348|
|Reinsurance recoverables on technical provisions||3,706||703||429||1,388||763|
|1) Presentation after elimination of intra-Group relations between segments|
Funds withheld by ceding companies represent the cash and securities deposits furnished by Group companies to cedants. These funds do not trigger any cash flow movements and cannot be disposed of by cedants without the consent of our companies. The durations of these deposits match the corresponding provisions. In the event that a ceding company were to default on funds it has withheld, technical provisions would be reduced by the same amount. Credit risk is therefore limited and as a result not shown in the above table.
Accounts receivable from the passive reinsurance business in the three primary insurance segments (after deduction of impairments) amounted to EUR 494 (464) million. As at the balance sheet date, more than 52 (57)% of these accounts receivable were rated A or better.
In the two reinsurance segments, claims due from retrocessionaires amounted to EUR 1.9 (2.2) billion as at the balance sheet date. Altogether, 89 (90)% of retrocessionaires have an investment-grade rating. Of these, almost 89 (87)% are rated A or better. The large proportion of reinsurers with top ratings reflects our policy of avoiding default risk in this area wherever possible.
The accounting balance (income for primary insurer), defined as the reinsurers’ share of earned premiums less the reinsurers’ share of gross expenses for insurance benefits and insurance operations, was –EUR 444 (–458) million for the year under review.
|N39||ACCOUNTS RECEIVABLE ON INSURANCE BUSINESS THAT WERE OVERDUE BUT NOT IMPAIRED AS AT THE BALANCE SHEET DATE|
|FIGURES IN EUR MILLION|
|> 1 day
< 3 months
|> 3 months
< 1 year
|> 1 year|
|Accounts receivable from policyholders||350||121||37|
|Accounts receivable from insurance intermediaries||148||31||6|
|Accounts receivable from reinsurance business||365||309||219|
|Accounts receivable from policyholders||322||90||22|
|Accounts receivable from insurance intermediaries||198||42||8|
|Accounts receivable from reinsurance business||706||195||213|
Overdue accounts receivable on insurance business are composed of receivables that had not been paid by the due date and were still outstanding as at the balance sheet date.
As at the balance sheet date, accounts receivable from insurance business by primary insurers with policyholders and insurance intermediaries that were in arrears by more than 90 days amounted to EUR 158 (112), of which EUR 37 (50) million remains in arrears by more than one year. This is equivalent to a rate of 13 (10)% and 4 (5)%, respectively. The combined average default rate over the past three years was 1.2 (1.5)%. The default rate in 2013 is 1.4 (1.2)%. Accounts receivable from the passive reinsurance business that were in arrears by more than 90 days amounted to EUR 203 (207) million, corresponding to a rate of 38 (42)%.
As regards the major companies in the Non-Life Reinsurance and Life/Health Reinsurance segments (the Hannover Re Group), reinsurance business totalled EUR 2.9 (3.1) billion. As at the balance sheet date, accounts receivable that were in arrears by more than 90 days, and in some cases impaired, amounted to EUR 301 (175) million. This represents a rate of 10.2 (5.7)%. The average default rate over the past three years is 0.1 (0.1)%.
Some 47 (42)% of receivables from ceded reinsurance business (Non-Life Reinsurance segment) were secured by deposits or letters of credit. We also act as reinsurer for most of our retrocessionaires, so we would normally be able to offset any defaults against our own liabilities.
No impairments were taken for accounts receivable from insurance business where the default risk associated with the assets is reduced by collateral (such as letters of credit, cash deposits, securities deposits).
Impaired receivables can be broken down as follows:
|N40||ANALYSIS OF INDIVIDUALLY IMPAIRED ASSETS ASSOCIATED WITH INSURANCE CONTRACTS|
|FIGURES IN EUR MILLION|
|Accounts receivable from policyholders||77||13||1,181|
|Accounts receivable from insurance intermediaries||23||2||909|
|Accounts receivable from reinsurance business||54||–7||2,981|
|Accounts receivable from policyholders||64||38||1,109|
|Accounts receivable from insurance intermediaries||21||2||947|
|Accounts receivable from reinsurance business||61||13||3,025|
Impairments on accounts receivable from insurance business, which we recognise in separate impairment accounts, developed as follows in the year under review:
|N41||IMPAIRMENT ON ACCOUNTS RECEIVABLE FROM INSURANCE BUSINESS|
|FIGURES IN EUR MILLION|
|Cumulative impairments as at 31.12 of the previous year||146||93|
|Change in scope of consolidation||—||—|
|Impairments during the financial year||28||35|
|Exchange rate fluctuations||–2||1|
|Cumulative impairments as at 31.12 of the financial year||154||146|
Default risk associated with accounts receivable from insurance business was generally determined on the basis of individual analyses. Any existing collateral was taken into account. The proportion of impaired receivables stood at 3 (3)%.