CHAPTER – 1

INTRODUCTION

Insurance in India started without any regulation in the Nineteenth Century. It was a typical story of a

colonial era: a few British insurance companies dominating the market serving mostly large urban

centers. After the independence, it took a dramatic turn. Insurance was nationalized. First, the life

insurance companies were nationalized in 1956, and then the general insurance business was

nationalized in 1972. Only in 1999 private insurance companies have been allowed back into the

business of insurance with a maximum of 26% of foreign holding. In what follows, we describe how

and why of regulation and deregulation. The entry of the State Bank of India with its proposal of

bancassurance brings a new dynamics in the game. We study the collective experience of the other

countries in Asia already deregulated their markets and have allowed foreign companies to participate.

1.1 Credit Insurance:

Credit insurance improves Overall credit management Practice and corporate value

More than 80% of daily business-to-business transactions are on credit terms. This is the most

important form of short-term financing within the corporate sector. Trade debts are one of the main

assets on most corporate balance sheets. They can represent up to 35% of total assets. Credit

management is therefore crucial for companies and can be an important strategic or competitive tool

for capturing new business. Better credit terms improve supplier-customer relationships and signal

financial health and “reputation”. Granting a payment delay to customers can cause cash flow or

financing difficulties for many firms, especially for small ones.

1

1.2 What is credit insurance?

Credit Insurance is a risk management product offered by governmental Export Credit Agencies and

some private insurance companies to business entities wishing to protect their balance sheet asset,

accounts receivable, from loss due to credit risks such as protracted default, insolvency, bankruptcy,

etc. Trade Credit Insurance is similar to, and may include a component of political risk insurance

which is offered by the same insurers to protect assets in foreign countries from loss due to currency

issues, political unrest, expropriation, etc.

Credit insurance provides companies with coverage for outstanding receivables, protecting against risk

of protracted default or insolvency of the buyer. From the selling company's point of view there are

three main advantages of buying credit insurance:

Risk Transfer: Sellers transfer the risk associated with default by their buyers to the insurance

companies. Because credit insurers manage risks by holding diversified portfolios and back these risks

with large amounts of equity, they are far more suited to assume the risks than the selling company.

Services: Credit insurance includes a large package of services. These include not only the continuous

monitoring of the creditworthiness of the insured's customers, but also servicing the account

receivables, or suggesting payment and delivery conditions. In Europe, the process of preparing the

insurance contract can take up to a year before the credit insurer and the insured actually finalize their

contract. Furthermore, the credit insurer supports the insured in debt collections.

Facilitate Financing: Firms with credit insurance are able to get better credit terms from banks. Some

banks require credit insurance before they provide financing.

2

1.3 History:

Credit Insurance was born at the end of nineteenth century, but it was mostly developed in Western

Europe between the first and Second World Wars. Several companies were founded in every country;

some of them also managed the political risk to export on behalf of their State. Credit Insurance is a

term used to describe both Trade Credit Insurance and Credit Life Insurance. Credit Life Insurance is a

consumer purchase, often sold with a big ticket purchase such as an automobile. The insurance will

pay off the loan balance in the event of the death or the disability of the borrower. Although purchased

by the consumer/borrower, the benefit payment goes to the company financing the purchase to satisfy

a debt.

Trade Credit Insurance is purchased by business entities to insure their accounts receivable from loss

due to the insolvency of the debtors. This product is not available to private individuals.

Over the '90s, a concentration of the Trade Credit Insurance market took place and four big companies

became the main players of a market focused on Western Europe, but rapidly expanding towards

Eastern Europe, Asia and the Americas.

1.4 Stages to the Internationalization of credit insurance:

There have been three stages to the internationalization of credit insurance. In the first stage, credit

insurers were mono liners, focusing almost exclusively on domestic policyholders. There was

generally one domestic and one (often state-owned) export credit insurer in each country. A

characteristic of credit insurance is that the risk is not the insured (the seller) but the insured's customer

(the buyer). Hence, the local credit insurers mainly monitored the domestic risks and exchanged infor-

mation with the other foreign credit insurers when insuring exports.

In a second stage, credit insurers insured foreign companies selling to buyers located in the credit

3

insurer's home country. The insurer served foreign clients, but dealt with domestic risks. In the current

stage, credit insurers sell insurance in several countries, which requires local expertise in these

countries to monitor trade credit risk. This is very challenging. for credit insurers since they are small

compared to a typical global company. To control monitoring costs, credit insurers have entered into

local joint ventures with each other and have become closely aligned with or integrated by multilane

insurers with foreign affiliates.

1.5 Credit risk management:

The seller must evaluate the creditworthiness of prospective clients before deciding to trade with them.

The trade credit department adds value to its company by providing information to the marketing

department on the credit quality of targeted clients. In addition, the trade credit department can

establish the maximum line of credit to be extended to a buyer. The internal information costs increase

with the heterogeneity of the client base. External agencies - including credit insurers can provide

country, sector and company-specific information. The credit insurer has an information advantage

over a single company since it has more information on company-specific behaviour on payments for

receivables. The information base covers more products over a longer time horizon than the single-

company information base of a trade credit department. Trade credit departments can purchase credit

information from credit insurers or other firms with company credit history databases. The trade credit

department must decide whether or not to self insure or transfer some of the trade credit risk. It

provides value by managing the risk associated with the company's accounts receivable. Part of the

trade credit risk can be transferred to a credit insurer or to the capital market, via a credit derivative.

Credit insurers are now beginning to provide non-traditional risk transfer products, such as derivatives.

4

CHAPTER –2

Types of Trade Credit Insurance:

Credit insurance can be classified into domestic and export credit insurance. In the past, credit

insurance companies specialized in one type or the other, but most of them now offer export as well as

domestic credit insurance. The boundaries between export and domestic credit insurance are becoming

blurred due to the internationalization of companies.

Whole turnover insurance covers the entire portfolio of receivables of a company, not selected risks.

By taking the whole portfolio of risks the insurer avoids insuring only bad risks or adverse selection.

Specific account policies do not insure the whole portfolio, but protect the insured against a selected

group of customers or a single transaction.

In a proportional insurance contract, the insured receives indemnification for every insured loss. The

amount of indemnification depends on the retention, i.e. the non-insured percentage. In a non-

proportional insurance contract (e.g. excess of loss or catastrophe insurance), the contract provides a

layer of protection for losses beyond a certain level. This type of cover is appropriate for firms that

want to insure themselves against the risk of single large losses.

The deductible under a whole turnover for a proportional contract is usually between 5% and 20%.

The deductible depends on the quality of the firm's trade receivable accounts and is set such that the

insured still has an incentive to efficiently manage its trade credit relationships.

5

2.1 Need For Trade Credit Insurance to the Companies:

Cash in advance and letters of credit are no longer competitive terms in the international marketplace.

Creditworthy foreign companies, accustomed to buying on open account from their other suppliers, are

going to expect the same terms from you. Your customers in emerging markets, on the other hand,

may face scarce capital and high interest rates, making it difficult or impossible to order your products

without credit terms.

You need to extend competitive terms to grow your international business, but what happens if you

don't get paid? Your foreign customers could file bankruptcy, run into cash flow problems, suffer from

currency devaluations, or fail to pay you for a variety of other reasons. You can protect your foreign

receivables against non-payment risks with an export credit insurance policy.

2.2 Risks Covered For Trade Credit Insurance:

Export credit insurance protects your foreign receivables against commercial and/or political risks

which could result in non-payment of your invoices. Commercial risks take the form of buyer

insolvencies (e.g. bankruptcy) or protracted defaults (slow payment). These problems could occur for

many reasons, such as fluctuations in demand, natural disasters, or general economic conditions in

your customer's country. Political risks include war, riots, and revolution, as well as currency

inconvertibility, expropriation, and changes in import or export regulations. All of your export

receivables can be insured under one multiple-buyer policy, or in some cases you can purchase key-

buyer or single-buyer coverage.. Your foreign customers don't need to be huge corporations or

government agencies; any buyers can be considered as long as they are creditworthy, as determined by

financial information, trade references, or in some cases simply your company's own ledger

experience.

6

2.3 Cost for Credit Insurance

Premium rates are based on the terms you extend, the spread of your buyer and country risks, and your

previous export experience. The cost is low, typically a small fraction of one percent based on sales

volume, in most cases considerably less than the fees charged for letters of credit.

Rates may be calculated as a function of your shipment volume, country and buyer credit limits, or

outstanding receivables. Premiums are payable monthly, quarterly, or annually.

Whether or not you pass this incremental expense on to your customers, the price of the coverage is

insignificant compared to the additional business you can win by extending competitive credit terms

overseas.

7

CHAPTER – 3

Facilitation of Credit Insurance as Sales of Financial Tools

(a) Increase Your Export Profits:

Grow your export sales by making it more economical for your foreign customers to purchase larger

quantities. Shipping larger orders helps you negotiate better pricing from your suppliers, make longer

manufacturing runs, and transfer inventory carrying costs overseas.

(b) Penetrate Your Target Markets:

Open new markets which your company might otherwise perceive as too risky for extending credit

terms. The opportunity to establish markets are in emerging economies has never been greater.

(c) Get More From Your Distributors:

Negotiate stronger overseas representation by offering competitive terms to your foreign distributors.

Provide incentives to keep more of your products in the supply chain, increasing your market share

and local brand recognition.

(d) Enhance Your Borrowing Capacity:

Obtain more favorable financing by including your insured foreign receivables in your borrowing

base. Export credit insurance makes your international receivables more attractive to your bank or

other lenders. You can assign policy proceeds to the lender of your choice.

8

CHAPTER – 4

Credit Insurance Markets:

The European credit insurance market has not experienced rapid growth in recent years,

though an expected increase in export growth is likely to improve its performance over the next five

years. Opportunities for credit insurers exist in the US, Asia and Latin America, where the market

penetration is lower. Aside £Tom extending the global reach of credit insurance, credit insurers have

additional opportunities to provide new services and products to additional and existing markets.

9

CHAPTER –5

Worldwide credit insurance market

Worldwide credit insurance premiums are estimated to be approximately USD 4.2 billion. The largest

regional market is Western Europe, with a market share of 84%, followed by the US with 12%. Within

Western Europe, the largest markets are Germany, France and the UK The prevalence of credit

insurance in Western Europe is striking compared to other lines of business. In contrast, the 1998

share of the total non-life market for all of Europe was 33%, compared to 43% in the US and 15% in

Asia. Traditionally, domestic and export credit insurance have been viewed as distinct product lines. In

1998, approximately 60% of total credit insurance was related to domestic and 40% to export

business.4 In the past, national governments have been involved in export credit insurance as a means

to promote the local economy but today, most of the state activities are restricted to long-term export

credit insurance, whereas short- and medium-term business is underwritten by the private sector.

Given the internationalization of many companies' activities, the distinction between domestic and

export sales has become less important. For example, a subsidiary of a German company located in

Mexico and delivering goods to Germany might also buy credit insurance £Tom Germany. Formally,

the subsidiary is acquiring export credit insurance, but for the German credit insurer it is like domestic

insurance. Within the European Monetary Union, the distinction becomes even less relevant because

of the widespread geographic presence of many companies and the single currency.

10

CHAPTER – 6

Research Methodology:

The method of research used in the report is DESCRIPTIVE RESEARCH.

Descriptive research is used to obtain information concerning the current status of the phenomena to

describe "what exists" with respect to variables or conditions in a situation. The methods involved

range from the survey which describes the status quo, the correlation study which investigates the

relationship between variables, to developmental studies which seek to determine changes over time.

This type of research is also a grouping that includes many particular research methodologies and

procedures, such as observations, surveys, self-reports, and tests.

Statement of the problem

Identification of information needed to solve the problem

Selection or development of instruments for gathering the information

Identification of target population and determination

Collection of information

Analysis of information

Generalizations and/or predictions

6.1 Information Sources:

Information has been sourced from books, newspapers, trade journals and white papers, industry

11

portals, government agencies, trade associations, monitoring industry news and developments, and

through access other databases.

6.2 Main Objective of the Research:

As Coface is entering one of the worlds largest non – life insurance market, which already has presence in reinsurance segment in India. As the Indian market is already facing stiff competition after the detariffication of Insurance in the year 2000, because of more and more new entrants in to the segment.

With booming Indian economy and a growth rate of 8% to 9% annually and new sectors and industries

are entering in and manifold increase in FDI to India. As more and more Indian companies are

exporting goods and services to many countries and even to the new countries and also the increase of

imports from various countries.

The objective of the report is to know the Indian non-life insurance market and the potential or market

available for the non-life insurance products and services by 2010, the regulatory framework and

present bottlenecks & Detariffication , present major players, new entrants, Distribution Channels &

Broker distribution Channels , potential growth areas, etc

12

CHAPTER – 7

About the company and the group

New Entrant to the Indian Non Life Insurance Market:

About the company and the group

7. 1 Coface Group:

Coface is a French MNC Company and worldwide largest provider of Credit Insurance and Credit

Management Services. It has over 60 years of experience in the field of credit insurance and credit

management and more than 83,000 customers in 99 countries across five continents. Coface operates

subsidiaries or branch offices in 58 countries, which represent over 80% of the worldwide trade. It also

offers local services in 93 countries through its partners in the Credit Alliance network, united by

shared credit risk management systems (the Common Risk System) and staffed by more than 4,600

employees serving 85,000 clients.

Coface's mission is to facilitate global business-to-business trade by offering companies four product

lines to help them manage, finance and protect their receivables (i.e. all credit granted for a period of

30 days, 60 days or sometimes more to other companies in the course of their commercial relations):

13

7.2 History:

1946 Coface is founded as a specialised export credit insurance company, managing its own products

and State guarantees for French exports.

1992 Coface begins its international expansion into the United Kingdom and Italy (with Viscontea

Coface), paving the way for acquisitions in Germany (AK Coface) and Austria (ÖKV Coface) in

1996. It sets up the Credit Alliance network of credit insurers.

1994 Coface is privatized.

1995 The Credit Alliance network is extended to credit information.

1999 Coface extends its service offering to factoring by setting up AKCF in Germany.

2000 Coface launches @rating, adding a worldwide insurable trade debt rating system to its credit

information service.

2002 Natexis Banques Populaires becomes Coface’s majority shareholder.

2004 Coface acquires Ort from Reuters and combines this company's expertise with that of Coface

Scrl to become France's leading credit information provider. It also forges international

partnerships, particularly in the area of corporate ratings in Russia Banking Association, and in

Japan with Nexi, the public- sector credit insurer.

7.3 Consolidated turnover (in € millions)

Consolidated turnover rose 4.3% to €1,130.8 million in 2004 from €1,084.5 million the previous year.

This growth was distributed evenly between the first and second halves of the year. At constant group

14

structure and exchange rates the increase in turnover came to 1.2%. Excluding the various prior year

adjustments that had an adverse impact on 2004 turnover, growth at constant group structure and

exchange rates stood at 2.9%.

7.4 Major International Players in Credit Insurance:

1. Atridius

2. Euler Hermes

3. Coface

4. Credit Guarantee Insurance Corporation

5. Gerling Kredit and

6. NCM

7.5 Major Domestic Players in Credit Insurance:

1) The Export Credit Guarantee Corporation of India Limited (ECGC) is a company wholly owned by the Government of India. It provides export credit insurance support to Indian exporters and is controlled by the Ministry of Commerce. Government of India had initially set up Export Risks Insurance Corporation (ERIC) in July 1957. It was transformed into Export Credit and Guarantee Corporation Limited (ECGC) in 1964 and to Export Credit Guarantee of India in 1983.

Export Credit Guarantee Corporation of India Limited was established in the year 1957 by the Government of India to strengthen the export promotion drive by covering the risk of exporting on credit.

Being essentially an export promotion organization, it functions under the administrative control of the Ministry of Commerce & Industry, Department of Commerce, Government of India. It is managed by a Board of Directors comprising representatives of the Government, Reserve Bank of India, banking, insurance and exporting community.

ECGC is the fifth largest credit insurer of the world in terms of coverage of national exports. The present paid-up capital of the company is Rs.900 crores and authorized capital Rs.1000 crores.

15

2) ICICI Lombard - ICICI Lombard General Insurance Company Limited is a 74:26 joint venture between ICICI Bank Limited and the Canada based $ 26 billion Fairfax Financial Holdings Limited. ICICI Bank is India's second largest bank; while Fairfax Financial Holdings is a diversified financial corporate engaged in general insurance, reinsurance, insurance claims management and investment management.

Lombard Canada Ltd, a group company of Fairfax Financial Holdings Limited, is one of Canada's oldest property and casualty insurers. ICICI Lombard General Insurance Company received regulatory approvals to commence general insurance business in August 2001.

3) Bajaj Allianz General Insurance Company Limited is a joint venture between Bajaj Finserv Limited (recently demerged from Bajaj Auto Limited) and Allianz SE. Both enjoy a reputation of expertise, stability and strength.

Bajaj Allianz General Insurance received the Insurance Regulatory and Development Authority (IRDA) certificate of Registration on 2nd May, 2001 to conduct General Insurance business (including Health Insurance business) in India. The Company has an authorized and paid up capital of Rs 110 crores. Bajaj Finserv Limited holds 74% and the remaining 26% is held by Allianz, SE.

As on 31st March 2008, Bajaj Allianz General Insurance maintained its premier position in the industry by garnering a premium income of Rs. 2578 crore, achieving a growth of 43 % over the last year. Bajaj Allianz has made a profit before taxes of Rs. 167 crore and is the first company to cross the Rs.100 crores marks in profit after tax by generating Rs. 105 crores.

4) IFFCO-TOKIO General Insurance (ITGI) is India’s trusted insurance company. It simplifies customer’s life by providing them tailor made products and quality services, thus helping them take informed investment decisions.

It is a joint venture between The Indian Farmers Fertilizers Co-operative (IFFCO) and its associates and Tokio Marine and Nichido Fire Group, the largest listed insurance group in Japan.

ITGI was incorporated on December 4, 2000 and has its head office in Gurgaon, Haryana.

We are among India's top three private-sector general insurance companies with 100 offices and a country-wide network of 480 exclusive point of presence.

ITGI's sound financial management has been achieved in a period of fast-paced growth. Our GWP has grown from Rs. 896 crores in 2005-6 to Rs. 1152 crores in 2006-07.

16

INDIAN COMPANIES WITH FOREIGN PARTNERSHIP

Indian Partner International PartnerAlpic Finance

Tata

CK Birla Group

ICICI

Sundaram Finance

Hindustan Times

Ranbaxy

HDFC

Bombay Dyeing

DCM Shriram

Allianz Holding, Germany

American Int. Group, US

Zurich Insurance, Switzerland

Prudential, UK

Winterthur Insurance, Switzerland

Commercial Union, UK

Cigna, US

Standard Life, UK

General Accident, UK

Royal Sun Alliance, UK

17

Dabur Group

Kotak Mahindra

Godrej

Sanmar Group

Cholamandalam

SK Modi Group

20th Century Finance

M A Chidambaram

Vysya Bank

Allstate, US

Chubb, US

J Rothschild, UK

Gio, Australia

Guardian Royal Exchange, UK

Group Legal & General, Australia

Canada Life

Met Life

ING

Source: U.S. Department of State FY 2001Country Commercial Guide: India

7.6 COFACE Business Lines:

1. Credit information and corporate ratings,

2. Receivable management,

3. Credit insurance,

4. Factoring.

Coface also offers three other business lines:

1. Guarantee insurance,

2. Receivables management training,

3. In France, public procedures management for export guarantees given by the French State.

In 2004, the following credit insurance companies’ joined as Credit Alliance: KECIC (Kazakhstan),

ITGI and ICICI Lombard (India), Hong Leong Assurance and Axa Behrad (Malaysia) and AXA

Assure credit (France), further extending the range of expertise offered by the network.

18

7.7 Coface India

The changing face of the new India has opened a wide variety of opportunities for companies to

develop their business operations. However the expansion of activities from a local stage to the

international arena is coupled with a larger number of more complex decisions, many of which involve

substantial risk. The Coface Info India (Credit Report Division) addresses the needs of today's

companies by providing full credit management solutions to build and protect business relationships

The company’s core activities cover the entire cycle from customer profiling to credit reports and

business information reports. This facilitates Indian and overseas clients to do business-to-business

trade. Its online credit reports are available at state-of-the-art database ICON.

Focus

‘Your choice partner in Minimizing Your Business Risks & Maximizing Your Business’.

Through Coface India Credit Management, Indian companies benefit from the expertise of a group

operating in 70 countries. The company has pursued the development of local partnerships and

fronting arrangements capable of offering domestic credit insurance to local companies and Indian

subsidiaries of Coface Group partners in their markets.

Coface India offers 2 product lines:

Credit insurance, and

Credit information.

19

In 2004, ITGI and ICICI Lombard (India) credit insurance company joined as Credit Alliance, further

extending the range of expertise offered by the network. As a result, the same high quality information

is received on the target companies, whether they are around the corner or around the world.

7.8 Products and services:

1. Credit Report

Coface India’s approach to collecting and evaluating company information ensures that you the

customer companies receive up-to-date, reliable information. Coface reports are competitively

priced and offer flexible service plans to meet client’s needs.

Request information on any business, anywhere in the world

Receive reports via the Internet, email or fax

Rely on Customer Service Center for full support.

Receive reports in various International languages

2. @rating

Credit assessment at the pace of business. These days, a company often has to make rapid decisions

about the financial security of a potential trading partner, and whether a company should grant

a line of credit. The company may also need to demonstrate its creditworthiness to suppliers

and customers.

3. The @rating scale

Coface’s simple, globally used rating scale indicates a company’s financial soundness,

reflecting the acceptable maximum level of exposure on a single transaction:

R $10,000

@ $20,000

20

@@ $50,000

@@@ $100,000

@@@@ $100,000 and above (Customized Credit Opinion)

Ratings are continually monitored so you always receive reliable information for accurate

decisions. Coface offers the following @rating solutions:

3.1 Cofanet Services

Through Cofanet, its online credit management tool, you will be able to conveniently access

both @rating Credit Opinions and business credit reports 24/7. With features such as Portfolio

Analysis and Data Export, Cofanet serves its client’s with expedited efficiency.

3.2 @rating Quality Label

Helps in proving company's creditworthiness on demand. The Quality Label program certifies

reliability and improves the client’s ability to negotiate better credit terms.

Credit insurance Top Players Ranking in 2005 in €m (1)Player 2005 revenue Rank Country Market Share

EULER HERMES 1747 1 France 36,3%

ATRADIUS + CyC 1421 2 Netherlands 29,6%

COFACE 921 3 France 19,2%

CESCE 130 4 Spain 2,7%

AIG 125 5 USA 2,6%

MAPFRE 125 6 Spain 2,6%

QBE 96 7 Australia 2,0%

Others 242     5%

Total WW 4807      

21

CHAPTER – 8

Non – Life Insurance Market In India

8.1 Key Information:

Official Name Republic of India

Capital New Delhi

Population 1.10 billion (2006 EST.) World Rank: 2

Languages English (official), Hindi 30% and 14 other

languages

Area 3.29m sq km World Rank: 7

Climate Varies from tropical monsoon in south to

temperate in north

22

8.2 Business Environment:

GDP (2006) USD 4,042bn World Rank: 4

Real GDP growth rate (2006) 8.5%

GDP per capita (2006) USD 3,700 World Rank: 155

GDP (by sector) (2006) Agriculture: 20%, Industry: 19%

Services: 61%

Unemployment rate (2005) 7.8%

Public debt (% of GDP) (2005) 52.8%

Budget (2005) Revenues: USD 109.4bn

Expenditures: USD 143.8bn

Industries: Textiles, chemicals, food processing, steel, transportation, Equipment, cement,

mining, software

23

8.3 Insurance Environment:

Premium levels (2006) USD 6.0bn in 2006

Nominal annual premium growth 13% (during 2006)

Premium density (2005) (= premiums per capita) India: USD 4.4 per capita

South & East Asia: USD 21.4 per capita, OECD Average: USD 1,106.2 per capita

Regulator: Insurance Regulatory and Development Authority

www.irdaindia.org

Main non-life industry: General Insurance Council association

Main life industry association: Life Insurance Council

8.4 Summary:

Despite political uncertainties, India’s economy is thriving. Assisted by this growth, significant

progress has been made in the non-life insurance market since liberalisation, and the pace of change

has stepped up in 2007 as a result of detariffication.

8.4.1 Economic growth despite political uncertainty

Whilst India prides itself on being the world’s largest democracy, the country is beset by political

uncertainty. On the domestic front, India’s United Progressive Alliance coalition is considered to be

inherently unstable. From an international perspective, relations with Pakistan are viewed as a risk,

due to ongoing tensions in Kashmir. Factors that have enabled this strong performance include India’s

demographics, human capital, global integration, macroeconomic and fiscal stability, and its

diversifying industries.

24

8.4.2 Substantial reform progress in non-life

Reform of the Indian non-life insurance market has progressed substantially since market liberalisation

began in 2001. Whilst detariffication occurred in early 2007, the market remains heavily regulated,

and its growth is hindered by the 26% cap on foreign ownership of insurers. Private insurers are

relatively new entrants into the Indian market, but they already share over one-third of the market and

are expected to increase their market share further as liberalisation continues.

8.4.3 Growth projections point towards high growth

The extent of the insurance market liberalisation process is the subject of ongoing debate.

Detariffication is likely to be associated with a period of adjustment and predatory pricing. Already a

sharp decrease in rates has been seen as a result of the January 2007 detariffication process. While it is

difficult to project the behaviour of market players and responses of the IRDA, in the medium to long

term, these reforms are expected to lead to more dynamic growth.

NON-LIFE PREMIUM INCOME INCREASED BY 106% BETWEEN 2000 AND 2005

The insurance environment in 2007CHART: Premium levels (in billion USD)

25

CHART: Indexed premium levels (2000 = 100)

The Indian insurance market cannot be understood except in the context of its history of

nationalisation and liberalisation. Reform of the Indian nonlife insurance market, which was

nationalised in 1972, has progressed substantially since the turn of the century, and received an

additional boost in 2007 with the Detariffication of key classes of business.

Non-life premium income has increased by 106% since initial liberalisation in 2000, consistently

outstripping global growth, as summarized by the indexed premium chart below. However, growth in

India’s non-life market appears to have slowed to 13% in 2006 – down from 18% in 2005.

Despite Liberalization in 2000, the Indian MARKET REMAINS heavy regulated:

Despite the welcome reforms between 2000 and 2006, the Indian non-life market remains heavily

regulated. Nonetheless, 2007 has so far been one of the most exciting years for the Indian insurance

industry, with significant reforms taking place. Some key characteristics of the market are listed

overleaf.

26

• Tariffs: Up until the end of 2006, tariffs remained in place across 70% of the market.3 Rates for

property and motor were detariffed at the beginning of 2007. However, insurers will not be allowed to

change the terms and conditions for existing products for up to 15 months post detariffication in an

effort to avoid confusion during the initial stages.

• Public Sector Undertakings (PSUs): PSUs remain dominant with an estimated market share of over

60%. However, this share is reducing as a result of private sector competition.

• 26% FDI cap: Foreign entities must partner with an Indian entity in order to form an insurer and are

limited to a maximum 26% stake in the joint venture. While the current government has suggested

increasing the FDI cap to 49%, the timing of this change remains unclear as it is likely to trigger

further policy discussions within the centre-left government coalition.

• Agents: Around 80% of premiums are still distributed through the traditional medium of the direct

sales (or ‘marketing’) agent. Brokers have failed to gain a significant market share largely due to

regulations that have put them in a disadvantaged situation.

• Compulsory cessions: There is only one local reinsurer, the 100% government-owned GIC. In April

2007, the proportion of compulsory cession to the GIC was reduced from 20% to 15%.

27

CHAPTER – 9

Looking forward to the market in 2010

The Indian insurance market is likely to change significantly over the next three years largely due to

regulatory changes. In addition, premium growth is being driven by other factors such as the growing

consumer class, increased foreign direct investment, infrastructure development, and an increased

awareness of catastrophe exposure. Despite significant positive changes, the insurance market must

still face the challenge of poor customer perceptions and the danger that the pace of reform will slow.

Several significant structural changes are expected in the market as a result of the drivers discussed

above:

Price competition has already begun to increase and is likely to continue to do so for the next 18 to

24 months.

The practice of cross-subsidisation is likely to be phased out as riskbased pricing is used

increasingly for all products.

As Indian insurers build a profitable portfolio, they are likely to have increased access to the

international reinsurance markets.

Finally, rising demand for insurance is likely to be met by increased capacity as foreign insurers

look to access this growing market. One conclusion is certain – the Indian non-life market is set to

grow dramatically over the next few years. The simplest forecasts suggest that premium income

could double in five years to reach USD 11.6bn in 2010.

28

When the structural changes above are taken into consideration, this growth becomes exponential,

with relatively slow growth in 2007 rising to rapid growth by 2010

The Efficiency of India’s Regulator Environment is Questionable:

9.1 PoliticsIndia prides itself on being the world's largest democracy modelled on the British parliamentary

model. India is a large country, not only with regard to its size but also in terms of culture, languages,

religions and contrasting convictions. Much of the complexity of India’s politics and regulatory

environment is dictated by the difficulties of these competing interests.

9.2 Regulatory environment

Despite its reputation, India performs well in terms of control of corruption, rule of law, and voice and

accountability, when compared to the regional average. However, this does not disguise the fact that

the country is often beset by political volatility, manifest by comparatively low levels of political

stability.

29

Compared to Regional Peers, India Scores High in Terms of Rule of Law and Accountability CHART: Governance indicators4 versus regional average (2005)

Notwithstanding the country’s heterogeneous society, there is an established and bind institutional

framework, which includes a legal system, capital market regulators a banking supervisors. However,

the efficiency and efficacy of these institutions is questionable, and there are significant gaps within

the Indian regulatory environment such as the lack of data protection legislation In addition to

relatively high levels of corruption there is a labyrinth of regulation caused by relations between the

central and state governments, which must be simplified if initiatives such as reform of the power

sector the development of special economic zones are to succeed. A major effect of these challenges is

to hinder the speed of legislative change, resulting in very slow legislature.

30

"We have to make our economic systems as transparent and as open as possible. We must focus on

vital issues like corporate citizenship, market opportunities and intellectual property rights."

Narayana Murthy, Infosys Technologies, India, WEF Summit, (2004)

India Has Anindependant Judicial System That Resemblence Thise Of Anglo- Saxon Countries :

There Is a Large Backlog of Cases Clogging India’s Judicial Process:

India has an independent judicial system, with its concepts and procedures resembling those of Anglo-

Saxon countries. The Indian judicial system is a single integrated system of courts, which administer

both Indian and individual state laws. While the judicial process is considered fair, a large backlog of

cases and frequent adjournments can result in considerable delay before a case is closed. However,

matters of priority and public interest may be dealt with expeditiously, and interim relief may be

allowed in other cases, where appropriate. Although there is evidence to suggest that Indians are

becoming more aware of litigation, especially in motor third-party cases, the general level of liability

claims awareness amongst India’s population is low. Consequently, the demand for corresponding

insurance protection remains modest.

31

Though Unstable, India’s Current Government is expected to Remain in Office:

Domestic politics:

In a dramatic turnaround in its fortunes, the Indian National Congress emerged as the largest party

following 2004’s elections. This party formed a governing alliance, the United Progressive Alliance

(UPA), with a number of smaller regional parties, as well as utilizing the support of a large bloc of

communist parties known collectively as the Left Front. The surprise result was attributed to the

alignment of the incumbent government with the country’s burgeoning middle classes and their

interests rather than those of the mass rural poor. India’s turbulent politics are complex and often lead

to short-lived administrations at national and state level. There is also often a wide gulf between the

commitments made by governments and the measures that the legislature and bureaucracy can actually

implement. The UPA coalition is expected to remain in office even though the coalition is viewed as

inherently unstable and progress on economic reform is predicted to be erratic. The pace of India’s

economic liberalisation will be determined by the leadership’s ability to pursue the country’s social

agenda. Legislative changes, however, tend to be passed very slowly in India due to the bureaucratic

and leadership hurdles that need to be overcome. Moreover, India’s pluralist political system can

complicate and thus further hinder the reform process.

Tensions Have Eased Between India and Pakistan over Kashmir:

India Will Never Achieve Its Full Potential without a Durable Solution in Kashmir

32

Foreign relations:

India’s foreign relations have in the past been dominated by its difficult relationship with Pakistan and,

more recently, with Bangladesh. India’s relations with both the US and China

Pakistan:

Relations between India and Pakistan have always been viewed as poor, with the two countries

fighting three wars since partition in 1947 and narrowly avoiding a fourth in 2002. Relations, however,

improved noticeably during the premiership of the Bharatiya Janata Party’s (BJP’s) Atal Behari

Vajpayee, who initiated peace talks with Islamabad. India and Pakistan are now several years into a

peace process that has made huge strides in reducing tension, but it is based on a bargain both sides

suspect the other of breaking: that Pakistan will rein in the terrorists operating from its soil and that

India will negotiate in good faith over the future of Kashmir. Thus significant tensions still exist and

the core issue of Kashmir’s status remains unresolved. It is argued, however, that until India is fully

reconciled to Pakistan, and until Pakistan has wrestled its own particular ‘demons’ to the ground, India

will never achieve its full potential, either economically or geopolitically. Moreover, it is argued that

neither of these two things can happen without a durable solution in Kashmir.

Bangladesh:

Relations with India’s other large Muslim neighbour, Bangladesh, although largely warm, started to

deteriorate in 2001 when the BJP took power. Although not fully restored, relations have somewhat

improved under the current Congress Party-led government.

China:

33

Despite lingering suspicions remaining from the 1962 Sino-Indian War and continuing

territorial/boundary disputes in Kashmir and Arunachal Pradesh, Sino-Indian relations have improved

gradually. Both countries have sought to reduce tensions along the frontier, expand trade and cultural

ties, and normalise relations. In 2003, India formally recognized Tibet as a part of China and, in 2004,

The US sees its relationship with India as a counterbalance to China’s expanding power:

India’s link with the US is improving. The US administration led by president George Bush is

concerned that the fast-expanding economic power of China poses a threat to the US global strategic

dominance and, as a consequence, welcomes a closer relationship with India as a counterbalance. In

upgrading ties with India, it is significant that Mr. Bush has avoided an endorsement of India’s

ambitions to gain a permanent seat on the United Nations (UN) Security Council.

A Permanent Membership on the UN Security Council Is a High Priority for India:

The question of India’s permanent membership on the UN Security Council is a high and pressing

priority for New Delhi. All elements along the Indian political spectrum are united in the belief that

their country’s flourishing transition from colonialism, its successful incubation of democracy amid

incredible cultural and linguistic diversity, its large population and growing economic prowess justify

global recognition through membership in the most important institution of international governance,

the UN Security Council. Germany, India, Japan and Brazil, known as the G4, and the African Union

are amongst those lobbying for coveted permanent member status. A working group on reform set up

under the UN General Assembly in 1993 has made little progress on the matter, with a lack of

consensus over potential candidates for such membership, despite warnings from the previous

Secretary-General Kofi Annan that the lack of reform could weaken the council’s standing in the

world. India belongs to all the major international organisations, including the UN, International Bank

34

for Reconstruction and Development, International Labour Organization, International Monetary

Fund, World Health Organization, World Trade Organization (WTO) and the Commonwealth.

For Decades, India’s Economy Underperformed Relative to Its Potential

Economy:

For decades, India's economy underperformed relative to its potential. Socialist policies and a

powerful bureaucratic apparatus led to red tape that stifled entrepreneur-led development. With the

collapse of the Soviet Union, a major reorientation of trade was needed. This, in combination with

additional external factors, led to a balance-of-payments crisis at the start of the 1990s, which provided

further stimulus for a wave of economic reforms.

Following the implementation of these reforms, for which today’s Prime Minister Manmohan Singh is

widely regarded as the ‘architect’, growth surged through to the mid-1990s and the beginning of this

decade – with India outperforming other large economic blocks, with the notable exceptions of China,

throughout the whole decade and Russia in 2005.

Following reforms, growth surged and made a step change upwards in 2002

CHART: Indexed nominal GDPs of major economies (1997 – 2006)

35

In addition to the change in its economic development policies, India’s business environment and the

country’s growth prospects are influenced by a number of characteristics. These characteristics

demonstrate that whilst the economy is growing and developing, it is still held back by inefficiencies

and bureaucracy. These challenges will need to be tackled if India’s economy is to continue to perform

well in the future.

9.3 Factors affecting India’s growth prospects

Favourable Factors: Unfavorable Factors:

Demographics Infrastructure bottlenecks

Improving Human Capital Evolving regulatory environment

Globally Integrating Economy Transparent but overburdened legal

36

system

Challenging but Improving

Macroeconomic and fiscal stability

A Mix of sheltered manufacturing and

competitive services sectors

9.4 India’s working population is projected to grow significantly:

Demographics:

Economic growth depends on, amongst other factors, having large pools of high-quality labour supply.

India has a young population of approximately 1.1 billion, the second-largest in the world after China,

increasing at roughly 1.5% per year.13 Latest figures from the UN Population Division reveal that

India’s working population is projected to grow significantly over the next 15 years as highlighted by

he chart below. This signifies that there will be a significant growth in labour supply over the next 15

years.

CHART: Age group projections (2000 – 2020)

37

x

Research by the Boston Consulting Group reveals that India is set to have the largest surplus working

population (15 to 59 years of age) by 2020 when compared to all other major economies as shown by

the chart below. Whilst this may lead to new job creation, this could also lead to greater

unemployment and/or lower wages.

9.5 India is set to have the World’s largest surplus working population by 2020:

An Estimated 210 Million Indians Have Been Lifted Above the Poverty Line

CHART: Surplus working population by country in 2020

38

Further research indicates that, between 1980 and 2000, an estimated 210 million Indians were lifted

above the poverty line (the threshold of which is USD 1.5 in earnings per day), which is an impressive

feat given that, during the preceding 20 years, the number of poor in

India increased by about 93 million. As such, in 2000, 28% of the Indian population was below the

poverty line, as compared to 36% in 1994. This suggests that the outcomes of India’s surplus

population are likely to be positive.

9.6 India possesses a large pool of scientists, IT specialists, technicians and engineers:

Human capital:

39

Nevertheless, economic growth does not merely depend on the quantity of labour available. In this

light, India still has a long way to go, not least if compared with its regional peers. Even though India

has comparatively low levels of overall adult literacy of around 61%, the country produces a large

number of skilled workers in various fields. It possesses a large pool of scientists, trained Information

Technology (IT) specialists, technicians and engineers, many of whom speak English fluently. There

are roughly 380 universities and 1,500 research institutions around the country, from which 200,000

engineers, 300,000 non-engineering technicians and 9,000 PhD students graduate annually. In other

words, while there is yet to emerge a broad class of highly skilled workers, there are ‘islands’ of depth

in particular sectors. The Indian government is fully aware of the role that science and technology can

play in developing the country’s economy.

"You cannot be industrially and economically advanced unless you are technologically advanced, and

you cannot be technologically advanced unless you are scientifically advanced."

More Than 100 It and Science-Based Firms Have Opened R&D Labs in India during the Last

Five Years:

Tier one Indian IT providers such as Infosys, Wipro and TCS have continued to thrive (reporting

revenue growth of around 40% for the second quarter of 2006). Over the past five years alone, more

than 100 IT and science-based firms have opened research and development (R&D) laboratories in

India. 22 India is also reported to be set to become the regional hub for pharmaceutical R&D,

manufacturing and exporting.

India’s Trade Volume as a Share of Gdp Is Low In Contrast To Other Major Asian Countries

Globally integrating economy:

40

India has made significant inroads in opening its economy since it joined the WTO in 1995. There are,

however, still remnants of its inward-looking development strategy. Indeed, India’s trade volume as a

share of GDP is low in contrast to other major Asian countries, and its import tariffs remain

comparably high. Moreover, capital account restrictions, in particular, those applying to foreign direct

investment (FDI), are still numerous, although recent policy directives are laying the ground for

greater FDI.

“With the debate about India’s emergence as a global leader in service exports dominating the news,

it may sometimes be overlooked that India remains a relatively closed economy.”

However, the prospects for greater world integration are promising, since there is a political consensus

on the need to further liberalise trade and capital account restrictions. Moreover, the size and potential

for growth of the domestic market is one of the more important factors responsible for the strong

interest of foreign investors in India. Recent discussions on expanding trade agreements, with China,

Singapore and Thailand for example, attest to India’s resolve to gain further access to world trade. The

recent lowering of duties for nonagricultural products from 20% to 15% and the proposed further

reduction in duties to 12.5% for the 2006-2007 budget are steps towards opening the economy further.

As India becomes a key part of the global supply chain, some of its companies will emerge as strong

performers in the international market. Those that succeed will likely retain elements of their

traditional business cultures (such as low cost advantages) while also adopting a more international

outlook, exporting their best goods and services while absorbing global best practice.

Inflation has Declined in Recent Years, but Increased Fiscal Discipline is Vital

Challenging but improving monetary and fiscal stability:

41

Inflation has declined significantly in recent years, stabilising at a level of roughly 5% after consistent

double-digit inflation prior to the 1990s. But the monetary authority’s success in maintaining relative

price stability going forward will require improvements in fiscal policies. India’s large fiscal deficit, a

legacy of the expansionary fiscal policies pursued by the government in the late 1980s, I

acknowledged to be its ongoing weakness. Public deficits since then have been very high at around

10% of GDP. India’s poor public finances28 have placed significant constraints on growth. The so-

called ‘development expenditure’, ie capital expenditure on areas such as infrastructure, has fallen

constantly as a percentage of GDP since the early 1990s. At the same time, nondevelopment

expenditure, particularly interest on government debt, has risen continuously.

The government has taken some initial steps toward fiscal consolidation. Indeed, the Fiscal

Responsibility and Budget Management Act was passed in 2002, with a goal of bringing down total

deficit and revenue deficit8 to 3% and 0% of GDP, respectively, by 2008-2009.29 The introduction of

the national value added tax (VAT) system in April 2005 is also expected to contribute to fiscal

consolidation.

9.7 There are severe infrastructure bottlenecks in India

Infrastructure bottlenecks

42

As a consequence of persistent shortfalls in public revenues, public investment has fallen continuously

over the years, leading to severe infrastructure bottlenecks. Indeed, despite having one of the most

extensive transport systems in the world, this sector continues to suffer from acute capacity and quality

constraints. As such, growth is expected to hit severe infrastructure constraints in the near future.

“China spent USD 260 billion – or 20% of its GDP – on power, construction, transportation,

telecommunications and real estate in 2002. In comparison, India spent just USD 31 billion or 6% of

GDP.” Chetan Ahya, Chief Economist, Morgan Stanley, (2004)

India Requires a Total of USD 150bn to Finance Its Infrastructure Development:

The government is faced with tough choices in allocating investment resources. According to Prime

Minister Manmohan Singh, India requires a total of USD 150bn in the short term to finance its

infrastructure development (rail, airport and seaport). Given this resource requirement, it is not

possible to fully fund infrastructure development from the government’s budgetary resources.

Accordingly, the Indian government has introduced the facility of viability gap funding to support

public-private partnership initiatives in infrastructure sectors. Infrastructure is one of three strategic

high-priority areas for India (the others being the public sector and agriculture). Lack of infrastructure

is a key reason why India’s poorest regions remain impoverished, and this has impeded the rapid

expansion of manufacturing.

Service sector bias:

43

India’s service sector accounts for over 50% of the economy and, in recent years, has been responsible

for the majority of economic growth. There are a number of key characteristics of the Indian economy

that contribute to higher growth in its service sector compared to its industry.

1. Firstly, highly restrictive labour laws have prompted industry to outsource activities so a

significant proportion of industrial growth is counted as service sector growth.

2. More profoundly, intrusive levels of market regulation and relatively high tariff structures have

deterred both domestic and foreign investment into industrial sectors, hindering the growth of

large-scale manufacturing companies geared towards exporting.

3. FDI growth has significantly lagged in comparison with other emerging markets such as China,

while growth in trade volumes relative to GDP has remained muted.

4. Finally, the financing demands exerted by recurring, large fiscal deficits have crowded

out

5. private investment. As a result, India’s growth model has been unique, with declines in the primary

agricultural share of GDP absorbed by growth in services, while the manufacturing sector has

remained largely static.

India Has Built Up a Diverse Industrial Sector with Major Industries Industrial sector:

44

India has built up a diverse industrial sector with major industries, including automobiles and auto

ancillaries, iron and steel, aluminum, textiles and garments, pharmaceuticals, chemicals and

petrochemicals, oil and gas and other hydrocarbons, electricity, telecommunications, IT and business

process outsourcing (BPO) services, healthcare and biotechnology. Today, the country is emerging as

a leading sourcing base for global players in auto and auto ancillaries, pharmaceuticals, IT and BPO

services, research and development, and engineering services. However, the picture is far from

uniform and is best understood when juxtaposing three distinct sectors:

India’s Technology, Software and Outsourcing Sector is Highly Competitive

Global leader – competitive IT and outsourcing sector:

At the high end of India’s productivity spectrum is the IT, software and BPO sector. Initially starting

with back office services such as call centres and tax work, India’s outsourcing platform has risen up

the value chain and now includes research and development in high tech sectors such as biotechnology

and pharmaceuticals. It is a big success story, having created hundreds of thousands of jobs and

billions of dollars’ worth of exports. As a new sector – and one whose potential the government failed

to recognise early on – it has avoided stifling regulation. IT, software and outsourcing companies are

exempt from India’s labour regulations that govern working hours and overtime in other sectors. FDI

has been allowed to flow into the IT industry, whereas foreign investment is prohibited and/or

restricted in most other sectors. By 2002, it already accounted for 15% of all FDI in India.32 Without

this foreign money, it is debatable whether the sector could have taken off.

45

Fast improving – transforming but still sheltered automotive industry

In the middle of the spectrum is the auto industry, which has seen dramatic change since the

government began to liberalise it in the 1980s. FDI, which has been permitted since 1994, has made it

possible for output and labour productivity to soar. Indeed, the industry has been growing at a rate of

approximately 30% and the industry exported USD 1bn in 2003-2004 compared to USD 760m in

2002-2003.33 Prices have fallen and, even as the industry has consolidated, employment levels have

held steady due to robust demand. However, the continued tariff structure for finished cars continues

to shelter domestic automakers from global competition – making the sector less efficient than it

would otherwise be.

India’s Consumer Electronic Sector Is Still Burdened by Tariffs, Making It Uncompetitive

Laggard – burdened consumer goods markets:

At the low end of the spectrum is the consumer electronics sector, which, despite the lifting of FDI

restrictions in the early 1990s, is still burdened by tariffs, taxes and regulations, with the result that

Indian consumer electronics goods can neither compete on price nor on quality with international

competitors. As a result of a total ban on FDI and extremely low labour productivity and performance,

India’s food retailing industry is considered to be the least competitive sector in the subcontinent.

46

CHAPTER – 10

Brokerage in India is still in its infancy

The challenges facing brokers:

Brokerage in India is still in its infancy. In December 2006, there were 222 licensed brokers (193

direct brokers, 4 reinsurance brokers and 25 composite brokers). However, the role of an insurance

broker does not seem to have been properly understood or appreciated because non-life market has

hitherto largely been tariffed.

Brokers currently account for a small percentage of all premiums distributed in India and are finding it

difficult to grow and attract new business. This position is a concern for entities such as Lloyd’s and is

mainly caused by structural elements within the Indian market; the following discussion outlines the

main challenges facing brokers:

Brokers Face Significant Cost Disadvantages Compared To Agents:

1. High set-up costs: The IRDA has made it mandatory for the insurance brokers to pay a registration

fee of INR 50 lakhs (USD 110k) in order to show commitment to the market and their clients. In

contrast, registration costs for insurance agents are just INR 250 (USD 6) per annum.57 Brokers are

also required to have professional indemnity cover of three times their brokerage income, subject to a

minimum of INR 50 lakhs (USD 110k).

47

The Indian Broker Market Is Dominated By Small Operations Targeting Sme Business

2. Sole trader competition: The vast majority of the 222 or so brokers currently operating in the

Indian market are extremely small operations targeting small and medium-sized enterprises. These

brokers currently have two distinct advantages over their corporate competitors in the Indian market.

Firstly, their relatively small fixed cost base enables them to intermediate business for commission

levels that are as low as 1%. Secondly, as insurance is not currently perceived to be a product of

economic value, the deep relationships that these brokers hold with their clients are deemed to be more

important than insurance expertise. So while internationally, the top ten brokers tend to be Fortune

500 companies, in India the top ten brokers are currently either chartered accountants or surveyor

firms.

Clients Have Yet To Be Made Aware Of the Benefits That Brokers Can Bring To Them

3. Legacies of the tariff market: The fact that 70% of all Indian premium income has hitherto

emanated from tariffed products means that brokers have so far been unable to demonstrate real value

to clients. First of all, the tariff market did not enable brokers to demonstrate their value in ‘shopping

around’ for the best deal. Clients have therefore understandably questioned the value of an ‘expert’

intermediary when the product that they are purchasing is basically a commodity. While detariffication

is changing these dynamics of the broking community, it is likely to take significant time and

resources to ensure that clients understand the full benefits brokers can bring to them.

48

4. Activity restrictions: Inddition to the above challenges for brokers, brokers are currently unable to

accept business or settle claims on behalf of insurers. The lack of these value-added back office

services is yet another barrier to clients purchasing their insurance through brokers.

11.2 Brokers Have So Far Had To Focus Their Efforts on Niche Segments:

As a result of high set-up costs, sole trade competition, a long history of tariffs and certain activity

restrictions, brokers have had to focus their attention on niche sectors of the Indian market namely:

non-tariff business, so-called mega risks and risks where a company’s paidup capital is below USD

3.5m.

11.3 Over the Medium Term, Conditions Are Expected To Improve For Brokers Future developments:

Detariffication is likely to have two medium-term effects on distribution in the Indian market:

Gradual demise of the ‘marketing’ agent: The PSUs will need to readjust their business models to

deal with the underwriting challenges posed by a detariffed market. In order to maintain

competitiveness, it is likely that their huge sales forces will need to be reduced. Voluntary Retirement

Schemes (VRS) have already been set up by the PSUs to cater for the loss of sales jobs that

detariffication is expected to cause.

49

However, there is a Chance that Insurers Will Have Created Other Distributors by Then:

In the short term, however, local private insurers do not appear to be prepared to wait for brokers to

gain a foothold in the market. Furthermore, the take-up of the VRS offered by the PSUs is reported to

have been disappointing. Some private insurers have adopted direct distribution strategies. ICICI-

Lombard is utilising the extensive retail bank branch network of its Indian partner to sell products via

the Bancassurance channel, and Tata AIG has recently employed 1,500 direct marketing agents of its

own. This situation may prove difficult for organisations reliant on the broker channel because if these

direct strategies prove successful, the extent to which the private companies are prepared to support

the cause of brokers may reduce substantially.

11.4 Brokers will have to demonstrate value to clients:

While the value of brokers lies to a great extent in their skills in structuring a customised solution for

their client, it will take some time until this value proposition filters down to end customers. On the

whole, the market will take some time to allow brokers to establish a name.

There is only one local reinsurer – the gic

Reinsurance:

The basic position of reinsurance in India is relatively clear:

Single local provider: There is a single local provider of reinsurance capacity, the GIC, which is

wholly owned by the Indian government. Reinsurance is not subject to a tariff.

15% compulsory session: Direct insurance companies operating in India were statutorily compelled

to cede 20% of their book to the GIC. Since April 2007, this has been reduced to 15%, after which

50

companies are free to make a commercial decision on how much more of their business they are

prepared.

GIC has right of first refusal: By law, companies should offer any additional reinsurance to the

GIC before seeking alternative markets, but in practice, this rarely takes place.

International reinsurance limited to a maximum of 10%: Surplus over and above the domestic

reinsurance arrangements class-wise can be placed by Indian insurers, subject to a limit of 10% of the

total reinsurance premium ceded, outside India.58 However, where it is necessary in respect of

specialised insurance to cede a share exceeding such limit to any particular reinsurer, the insurer may

seek the specific approval of the Authority.

Hardening Rates Have Caused Indian Buyers to Purchase Non-Proportional Cover Reinsurance

buyers:

Following the hardening of international rates and the growing sophistication of the Indian reinsurance

buyer, there had been a trend towards the purchase of non-proportional programmes in India until mid-

2004.

However, a combination of general rate-softening in the international markets and extensive price-

driven competition from the continental reinsurers in the local market has made proportional treaties

attractive once again across the market. Reinsurance buyers in India fall into two broad categories: the

public companies (including the GIC on a retrocession basis) and the private companies. The

perceptions that international reinsurers have of these two groups of buyers are significantly different.

51

CHAPTER – 11

Public companies: GIC and the PSUs

The GIC is the largest and most important reinsurance account in India and, due to their continued

dominance of Indian direct market; the PSUs also continue to be important reinsurance buyers.

According to the 2005-2006 IRDA Report, the retention ratio – a measure of the companies’ ability to

bear risks – differs markedly between PSUs. Traditionally, PSUs have retained a significant

component of their portfolio, although the net retention is driven by the respective segment in which

the premium has been underwritten. Overall, the net retention ratio of PSUs for the period of 2005-

2006 declined, with United India and Oriental retaining considerably less than both New India and

National, which both increased their retention. As expected, across segments, the retention ratios also

have varied significantly as summarised by the chart overleaf

CHART : Retention ratios of PSUs

52

CHART: Range of PSU retention ratios

The public companies are said to maintain poor quality data and to focus heavily on cost:

However, despite the size of the PSU accounts, leading international underwriters expressed certain

reservations about dealing with this business.

Poor data: The data provided by the Indian public companies is routinely described by underwriters

as “very poor”. This is mainly a result of the inadequacy of the IT systems employed by the public

sector companies. This situation adversely affects the ability of both brokers, who are less able to add

value by means of actuarial capabilities, and underwriters, who find it difficult to fully comprehend

their exposure to risk. It should be noted that gradual improvements are being made as clients and

counterparties demand quality, and an Indian risk management solutions model was launched in

December 2006 by RMS. However, even with this progression, it is unlikely that the standards of

public sector data will reach ‘satisfactory’ levels in the near future.

Cost focus: As found elsewhere in Indian insurance, there is an unrelenting focus on low cost rather

than economic value in the reinsurance purchasing practices of the public companies. This focus is

structurally supported by an annual tender process in which a range of companies are invited to place

their bids for a reinsurance programme.

53

However, the PSUs Still Remain the Largest Reinsurance Buyers in the Market:

However, despite these ongoing issues, there are good reasons for international reinsurers to continue

to focus on the public company’s portfolios. These accounts are expected to continue to be India’s

largest for a considerable time and their data provision is expected to improve with the increasing

international competition in the direct market. Moreover, leading international brokers are extensively

used for the placement of Indian reinsurance premiums. Guy Carpenter and Willis are said to be the

largest producers for Lloyd’s.

12.1 Private companies:

The reinsurance position of private sector companies operating in the Indian market differs from that

of their public sector competitors in three key ways.

Smaller market but higher reinsurance utilisation: Firstly, the accounts are far smaller but retention

ratios tend to be lower. Again, depending on portfolios; for instance, HDFC Chubb’s retained a higher

portion than any other private insurers – largely due to a significant component of its portfolio being

motor.

54

While The Overall Size of the Reinsurance Is Smaller For Private Companies, They

Tend To Have a Higher Utilization

CHART: Retention ratios of private companies

Better quality of data: Secondly, the quality of data provided to reinsurers is of a far higher quality

than that provided by the publics.

Less focus on insurance costs: Finally, there is slightly less focus on cost (and more focus on

relationship) in the reinsurance purchasing process.

The private companies are still young and thus use proportional treaty arrangements:

London underwriters are not yet heavily involved in working on the reinsurance programmes of the

private companies despite their greater degree of quality and professionalism. This is mainly due to the

size and stage of development of the private insurers in India. The small size of the private insurers

means that only low levels of premiums are available from these organisations and, therefore, there is

little margin from which to pay for the relatively costly process of purchasing protection from London.

The fact that the organisations are young is also an important barrier to London purchasing as they

55

have tended to opt for proportional treaty coverage, which is the stronghold of the GIC and the

continental European reinsurers. However, as these private insurers grow and develop their business in

India – which they are expected to do over the medium term – the reinsurance premiums available

from them will grow ever larger, and it is likely that their balance sheets will reach a point where the

purchase of non-proportional cover will become more of a realistic option.

The GIC is 100% government-owned and has an ‘A’ rating from a.m. best Reinsurance sellers

The GIC:

The GIC, the national reinsurance carrier, is backed 100% by the Indian government. The GIC’s

exceptionally strong position in the Indian market is further underpinned by the links it maintains as a

holding company for the PSUs. The GIC currently has a ‘BB’ rating (Marginal) from Standard &

Poor’s and was downgraded from an ‘A’ to an ‘A-’ by A.M. Best at the end of 2006.

Its monopoly position has enabled the GIC to build up a huge amount of capital and the organisation is

currently seeking opportunities to efficiently employ its assets. There is current evidence of this

activity as the GIC has recently built on its strength at home and developed its presence across Asia,

Africa and the Middle East. Sources suggest that the GIC has ambitions to become the leading

reinsurer in the region. In terms of products, the GIC is seeking to develop into lines outside of its

traditional proportional treaty arrangements, which are being eroded by heavy competition from the

large continental reinsurers.

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Primary Insurers in the Indian Market Are Obliged To Cede 15% of Their Risk to the Gic from

April 2007 Onwards:

The compulsory cession rule does not always work in the GIC’s favour as the government run

reinsurer has no choice but to accept the poorly performing motor liability cessions. Given its

dominant position, the GIC is confident that it will remain competitive in a freer market than currently

exists in India, and has stated that it is in favour of both detariffing the Indian primary market and a

gradual removal of the compulsory cessions.

Although cedants express confidence in the GIC, they also have a desire to spread their reinsurance

exposure across more than one provider. Apart from the GIC, several foreign reinsurers are involved

in the Indian market.

Swiss Re and Munich Re Are Strong in India Due To the High Use of Proportional Treaties:

Outside of the GIC, the continental reinsurers are the main markets used for the placement of

proportional treaty business. However, over the past five years, the position taken by the major

continental providers has changed substantially. Following major losses in the late 1990s, the

continentals appeared to have turned their backs on India and focused their attention elsewhere;

however, during the last two to three years, they have shown a significant interest in redeveloping their

position in India. Swiss Re (Mumbai), Munich Re (Kolkata) and SCOR all now have ‘representative’

offices in India. They all continue to seek opportunities to bolster their share of the Indian market and

are cutting prices heavily to do so. Growth in India appears to be of strategic importance to the large

continental reinsurers and, therefore, their parent companies are likely to absorb any losses made in the

market over the short to medium term.

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All of the Continental Reinsurers Are Now Aggressively Targeting India

Munich Re had sought to form an onshore reinsurance venture with Indian partner Reliance; this deal

fell through in late 2004 as Reliance moved through a corporate restructuring and Munich Re

discovered that Reliance wished to be more than a simple ‘silent’ partner in the proposed operation. To

counteract the requirement of a local partner, both Munich Re and Swiss Re are lobbying for full

branch status for their local offices. This would enable them to utilise the huge capacity of their head

offices rather than putting up the USD 44m in capital required to be a local reinsurer. However, this

proposal has been pushed back strongly by the IRDA and is unlikely to be implemented in the short to

medium term. So for the time being, Munich Re appears to be concentrating its activities in India on

tapping into the fast growing life insurance markets. Munich Re’s Ergo has already established its

presence in India through a health insurance partnership with Apollo. Apollo has joined hands with

DKV International Health Holdings (part of Ergo group), which is Ergo’s health care brand.

The London Market Is an Important Provider of Non Proportional Coverage to India

London market:

The London market, and in particular Lloyd’s, still continues to play an important role in Indian

reinsurance. London tends to be perceived as the leader for the following categories of business:

Specific and high-limit reinsurance coverage (facultative and excess of loss).

Sophisticated and tailored products such as jeweller’s block, financial institutions, professional

liability (D&O / E&O).

London and Lloyd’s retain strong positions in the Indian reinsurance market despite not having a local

presence for several reasons: firstly, the common language shared by the two countries; secondly, the

legal systems are aligned and based on Anglo-Saxon common law principles; and thirdly, education.

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Indian insurers are keen to work with their London counterparts as London and Lloyd’s underwriters

are perceived to be world leaders in insurance, and deals made with London enable Indian companies

to benefit from market leading knowledge. Finally, Indian buyers are said to enjoy the culture of the

‘deal-making’ environment of the London market.

Regional markets, such as Singapore, are considered tier 2 reinsurance providers: Regional markets, such as Singapore, absorb some Indian reinsurance business, but these players are

generally considered to be tier 2 options behind the continental markets and London. This competition

tends to occur once London has set up and underwritten an account for one or two years; there have

been reports of significant price competition stemming from Western insurance companies operating

out of Singapore. This cost focus is certainly attractive to Indian buyers, but significant amounts of

premium are not currently being lost to regional centres. Bermuda is not a natural or traditional home

for Indian reinsurance and is not used much; however, it was noted that Bermuda would certainly be

considered if the rates were attractive.

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CHAPTER – 12

CLASS-BY-CLASS ANALYSIS:

The remainder of this section will consider each of the major classes in the light of the liberalisation

dynamics discussed above. This will be used as the basis of the forecasting in the following section.

13.1 Motor:

Sales of automobiles tend to have a significant influence on the level of non-life insurance premiums

in a developing country. The main reason for this situation is that motor insurance is generally a

compulsory product in most countries. The relationship between automobile growth and non-life

premium income is illustrated by the Chinese market. Between 1998 and 2002, automobile

registrations in China grew by 141%; during the same time period, non-life premiums increased by

68%. India is just entering a period in which car sales are likely to grow exponentially; market leader

Maruti Udyog reported a 22% increase in domestic sales at 56,606 vehicles during September 2006

compared with 46,393 vehicles in the same period the previous year.

The Compulsory Motor Class Plays a Less Significant Role in the Indian Market:

The premium breakdown shows that the compulsory motor class plays a less significant role in the

Indian market than in other developing territories. By comparison, the Chinese market consists of 61%

motor premium. The difference in contribution is reflected in the number of new car registrations in

each of the countries. In 2005, China recorded 3.8 million new car registrations whereas India

recorded 1.3 million in the same year.

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Motor third-party (TP) liability has been a famously loss-making business due to fixed, very low

pricing and to galloping, very high claims payouts. During 2003-2004, the motor TP portfolio was

estimated to have a claims ratio of 200% to 250%.

CHART : Motor TP* absolute growth and market share – top five players (1H 2005 vs. 1H 2006)

It has been common practice for this segment to be cross-subsidised by the motor own damage (OD)

premiums (which business is estimated to have a better claims ratio of about 80%). In particular, ICICI

Lombard has been making significant progress in gaining market share in motor OD business, growing

by USD 60m between 1H 2005 and 1H 2006.

On the other hand, Baja Allianz is a significant player in the much less desirable motor TP business.

Yet even in this segment, ICICI Lombard has grown its business more in absolute terms as

summarised by the charts below.

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ICICI Lombard has grown its motor business significantly – revealing an aggressive strategy for

Market Share:

CHART : Motor OD absolute growth and market share – top five players (1H 2005 vs. 1H 2006)

Fire has traditionally been the breadwinner of the Indian insurance market

13.2 Property:

The IRDA splits the property class into fire and engineering. Fire has traditionally been the breadwinner of the Indian insurance market with claims accounting for approximately 30% in 2004.72 The typical customers for fire insurance are mainly large corporate customers, which demand successfully that their unprofitable risks such as health and marine cargo get a most favoured pricing status, the subsidy being hidden by the fact that the latter have for some time been non-tariff classes of business.

CHART : Fire absolute growth and market share – top five players (1H 2005 vs 1H 2006)

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Group Health and Liability Insurance Are Becoming Increasingly Important For the Indian

Economy

CHART : PA & healthabsolute growth and market share – top five

Rising Health Costs Lie Behind Considerable Growth in Health Insurance Premiums

The fundamental causes of upward pressure on health care costs include the rapid progress of medical

technology and the fact that patients are becoming more demanding about health care services and

‘wants’ are expanding in relation to ‘needs’

While it is difficult to measure the extent of rising medical costs, observers suggest that health care

costs are typically increasing at three to five times the rate of general price inflation.

Even though health insurance is seen as becoming increasingly unprofitable for PSUs, due to

escalating healthcare costs, adverse selection, moral hazard and a low premium structure, ICICI

Lombard has clearly targeted this segment of the market as summarised by current market share and

growth figures above.

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13.3 Marine:

Private companies have so far made little impact on the marine cargo markets as customers continue

to prefer dealing with PSUs.

However, recent growth performance indicates that private companies are gaining market share

CHART : Marine cargo* absolute growth and market share – top five players (1H 2005 vs 1H 2006)

While the market penetration for private companies in the marine cargo segment has been

comparatively low, some significant growth has been witnessed in the marine hull business for

private companies.

The entry of private companies is expected to benefit shipping companies as they will then be in a

position to obtain cheaper war risk cover from the international market compared with the current rates

being offered by PSUs.

As summarised by the chart below, IFFCO Tokio has recently gained a significant portion of the

market – controlling one- fifth of the total Indian marine hull market in 1H 2006.

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Iffco Tokio Gained a Significant Share of the Marine Hull Market with Major Growth in 1h

2006

CHART : Marine hull absolute growth and market share – top four players (1H 2005 vs 1H 2006)

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CHAPTER – 13

The Indian Non-life Market 2010

The Indian non-life market has experienced significant changes that are likely to influence the

country’s development of its insurance market in the medium to long term.

So far, the entry of a large number of Indian and foreign private companies has led to greater choice in

terms of products and services for Indian consumers. A growing realization of the benefits and

importance of sophisticated insurance and reinsurance tools has broadened the pool of potential buyers

of insurance.

Given this backdrop, the Indian insurance market has experienced considerable growth since its

liberalisation in 2000. Over the next three years, the Indian insurance market is likely to see its process

of maturation accelerate.

14.1 Regulatory drivers:

Regulatory changes in the four areas discussed in the previous section – products, market players,

distribution and reinsurance – will drive change in the Indian insurance market in the medium term. In

some areas, such as detariffication, the majority of reform has already taken place, although the

consequences are yet to be seen. In other areas, while the reform is promised, it is difficult to

anticipate when it will occur. As a result, there is a lot of uncertainty in the Indian insurance market.

The four main areas of change are now considered in turn.

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14.2 Detariffication:

The process of detariffication, first begun in 1994, has gradually moved the Indian market to a position

where the overwhelming majority of insurance is transacted without a tariff. As of 1 January 2007,

tariff rates have been withdrawn from all lines of business except for motor third-party (TP) liability.

14.3 Foreign ownership:

As discussed earlier, foreign ownership is currently restricted to 26%, although there are plans to

increase this limit. The typical structure adopted by the Indian government for the phasing in of

foreign-owned entities across other industries (such as construction and pharma) has been as follows:

1. Phase I: Allow foreign entity to have 26% stake in joint venture.

2. Phase II: Increase foreign entity maximum stake from 26% to 49%.

3. Phase III: Increase foreign entity maximum stake from 49% to 74%.

4. Phase IV: Allow 100% foreign-owned entity to operate in market.

In January 2007, the Indian government reiterated its claim to increase the cap from 26% to 49%

In January 2007, the Indian government reiterated that it would introduce legislation to hike the FDI

cap in the insurance sector to 49%. No time limit has been set for taking a decision on it although

consultations with the industry and stakeholders are underway. There is ample opposition from the

left, but analysts expect that this change will be made effective in the next one to two years.

The effect of this change will be twofold. Firstly, it will increase the focus of the existing private

insurers operating within the Indian market. As discussed in the previous section, the private

companies are increasingly diverging on strategy as they are influenced by their foreign partners. It is

likely that increased foreign ownership will lead to differentiated strategy, more niche players and a

wider product range.

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Secondly, it is expected to increase the supply of capacity in the market as new investors will decide to

enter the market. Indeed, a number of insurers have commented that, as soon as foreign companies are

allowed more than 26% ownership, they would move as quickly as possible to participate in the

market.

14.4 Broker distribution:

The broker channel was recognised in 2002; again, foreign capital providers can take up to a 26%

stake in an Indian brokerage operation.

There is also no indication at the time of writing as to whether the constraints placed on brokers, such

as high set-up costs and activity restrictions will eventually be removed.

What remains clear, however, is the fact that in a detariffed market, the broker has more opportunity to

demonstrate value to both the customer as well as the insurer. Value-added services can be in the form

of consulting regarding risk management responsibilities as well as more traditional insurance-related

roles.

The 20% Compulsory Cession Has Been Reduced To 10% In 2007

In line with detariffication, there has been some progress in reducing the compulsory cession to the

GIC from 20% to 15%.

However, a complete abolishment of the remaining 15% compulsory cession to the GIC is unlikely to

occur in the medium term. Although it would seem natural to liberalise this position as the broader

non-life market begins to open up, the Indian government and legislator reiterated their desire to retain

insurance premium in India in the central legislation of 2000, and there is no reason to believe that this

position has since changed. In addition, many local companies are happy with the automatic

reinsurance support that they receive from the GIC.

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The PSUs are pleased that they are able to cede 15% of their poorly performing motor book onto their

parent whereas the growing number of private insurers are grateful for the additional capacity that they

receive from the GIC’s de facto proportional treaty coverage. While a further reduction to 10% is

expected in 2008, abolishing compulsory cessions altogether is not at the top of the legislator’s

agenda.

14.5 Growth drivers:

Overall, sales of both commercial and retail products are expected to benefit from India’s surging

economic output over the medium term. Economists expect India’s output to grow by around 6% per

annum over the next ten to 15 years, and the political and business environments are expected to

stabilise further.The combination of this economic growth, increased stability and the liberalisation of

the non-life sector is expected to provide premium growth in the range of 10% to 15% per annum over

the short to medium term.

14.6 Personal lines insurance premium growth drivers:

Although probably not of immediate interest to Lloyd’s underwriters, a developing economy’s initial

growth in insurance penetration is often driven by personal lines products, especially motor cover as

this tends to be compulsory. Indeed, India’s fast-developing private insurers expect retail products to

provide them with their main source of premium growth over the medium term.

The reason for their focus is as follows:

Growing consumer class: The Indian consumer class is currently estimated to be around 200 million

and growing. However, even amongst this class of consumers, nonlife penetration remains extremely

low. The reasons for the low penetration are twofold. Firstly, most members of the consumer class

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have gained their wealth recently and, therefore, have had little time to consolidate and protect their

assets. Secondly, lack of competition in the insurance market has led to mundane products and poor

customer service. These limiting factors are likely to decrease over the medium term.

14.7 Commercial insurance premium growth drivers:

The widely acknowledged dynamism of the Indian economy is currently attracting global attention.

Commercial enterprise is likely to benefit from this, and the success of commercial enterprise is likely

to filter down to the general insurance sector. Reasons for this include:

a) FDI:

Foreign direct investment in industry is often made with several requirements that generally include

adequate insurance cover. Sectors most likely to benefit from investment in the medium term are IT,

pharmaceuticals and manufacturing. Product demand is likely include product liability (for exporters)

and directors’ and officers’ liability (D&O) cover.

b) PPP infrastructure development: The quality of India’s ports, airports and railways leaves much

to be desired, and infrastructure development in the next few years is likely to cost USD 150bn. Given

the need for speedy infrastructure development and the shaky state of its public finances, the Indian

government appears to have embraced the concept of Public Private Partnerships (PPP).

c) Insurer quality and client education:

Market-leading companies will expect market leading insurance cover. Household name insurers have

already recognised this and have entered the non-life sector with Indian partners. Direct investment in

the non-life sector by foreign entities is expected to drive growth in insurance premium through

increased quality of product, higher-quality customer service and increased customer awareness of the

economic benefits of purchasing sound insurance coverage.

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CHAPTER –14

A Significant Price War is expected over the Next Few Years

15.1 Price competition is set to increase:

While it is yet too early to verify the impact of the detariffed environment, competition is expected to

manifest itself in prices, products, underwriting criteria, sales methods and creditworthiness. As

experience with other markets has shown, insurance companies are expected to vie with each other to

capture market share through better pricing and client segmentation. Industry observers estimate that

there is likely to be a significant price war, which is expected to last for 18 to 36 months.

When marine hull insurance was completely detariffed, the stiff competition that followed led to rates

falling by 40 to 50%. Marine hull insurance premiums are, however, now expected to rise back to the

levels prevailing before detariffication occurred. Moreover, Indian shipping companies are expecting

to see strong demarcation and differentiation between fleets of different ship owners. Factors such as

claims history, maintenance condition and average age of vessel are expected to strongly influence

premium rates. General insurers have predicted that premiums for older ships will increase by as much

as 40% at renewal this year, but that good shipping fleets with a no loss record, of which there are few

in India, are likely to get a 10% to 20% reduction in new premiums.

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15.2 Cross-subsidisation is expected to cease:

The Fire Class Will No Longer Serve as a Source of Cross-Subsidy for Motor Business, In the initial

phase of detariffication, the free pricing regime is expected to result in a decline in growth. Other

markets in which detariffication has occurred on a similar scale, such as Japan, South Korea and

Ireland, have shown that the first few years can witness a decline of 20% in premiums for detariffed

classes – leading to growth resuming only three years after the lifting of pricing restrictions.

The issue of fire detariffication is of particular interest to insurers as they have hitherto used the fire

portion of an account to cross-subsidise the losses that they frequently experience in motor and non-

tariffed business classes. To put it differently, in the loss-making areas, the premium rates are expected

to increase to meet the losses, while premium rates are expected to come down in profitable portfolios

such as fire and engineering.

As fire premiums are being detariffed, there is most likely going to be a competitive struggle between

the PSUs and the private insurers. It is believed that this is the reason why the IRDA has placed an

administrative burden on insurers wishing to reduce rates by more than 20%. Some commentators

believe this will limit price competition, while others think it will merely cause confusion in the

market.

The public sector insurers in India have continued to push for motor detariffication as, for many years,

they have incurred losses in this mandatory insurance sector. State-owned insurers have argued that

since they handle more than 40% of the country’s motor business, any delays in implementing the

detariffication of this segment would hit the companies’ profitability.

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15.3 Rationalisation of premium structures is expected:

a) Risk-based pricing will increase:

Detariffication is expected to result in risk-based pricing of portfolios and therefore a rationalisation of

premium structures. While we can expect some level of unpredictability in the market initially,

experience from other countries that have gone through detariffication shows that prices will stabilise

to reflect the underlying risks and cost of capital, whereas insurers’ underwriting efficiency will

increase. For detariffication to be successful, stronger solvency supervision will also be required as,

without fixed tariffs, insurers’ results will become more volatile. This will force out badly performing

insurers that have hitherto placed little emphasis on quality underwriting.

b) Building of profitable portfolios could help access to reinsurance support:

Currently, the Indian market has ample capacity for even the largest risks, due to inter company

cessions of the PSUs, the market surplus treaties and facultative support from the GIC. With

detariffication, some reinsurers have expressed concern over the possible impact of the ensuing ‘price

war’, which could result in the revenues of primary insurers shrinking. This, in turn, could lead to

deterioration in underwriting losses and a consequent weakening of domestic retention capacities.

Some international reinsurers looking at the Indian market believe that it could take some time for

cedants to gather experience with the new situation and to find their minimum rates. This is due to the

fact that the primary reflex for reinsurers is to compete via price for new or renewal business.

Insufficient ratings, in turn, take at least a year to have an impact on the companies’ results, since

losses do not occur instantly. Accordingly, one ‘bad’ year is not sufficient to change market behaviour.

Market behaviour with respect to companies’ rating approach is only likely to change after two or

three years of negative results.

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15.4 Growth in demand is expected to be more than met by increased capacity

a) Growing insurance demand will be met by increased capacity:

Growth in insurance demand will need to be matched by increased supply of insurance capacity. There

is unlikely to be a shortage of capacity due to the global interest in India from leading insurers. The

three candidates for this capacity provision are as follows:

1. Existing insurers (PSUs or privates) either by receiving additional capital from their parent

companies or via a capital-raising exercise, eg a PSU doing an initial public offering (IPO).

2. New insurers that choose to join the market.

3. Heavier reliance on the global reinsurance market.

The most likely scenario is that all three of these groups will be involved in the evolution and growth

of the Indian non-life market to the extent that the government allows them to be. The growth

prospects in India are very real and understandably attractive to Western insurance groups that are

searching for growth outside of saturated, developed markets. However, increased capital supply may

depress prices to unrealistic levels in the short term.

b) Growth projection: scenario I – “simple extrapolation:

Having looked at the regulatory and growth drivers, we are now in a better position to project

premium levels for the Indian non-life direct market up to 2010. We can build up a successively more

complex scenario by starting with the most basic:

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15.5 Constant premium growth:

The most basic growth scenario that we can start with is a mere projection based upon the compound

annual growth rate for the period of 2000 to 2006, which stood at 17%. This is a useful exercise in

understanding the recent growth dynamics of the Indian insurance market and its potential up until

2010. To put it into context, the Indian insurance market in this scenario could expand by almost 100%

to overtake today’s markets of Ireland or Taiwan.

If Premium Growth Continues According To Its Historical Average, the Indian Market Is Set

To Nearly Double By 2010

CHART: Scenario I – premium levels projection (in billion USD)

However, the scenario fails to take into consideration the considerable structural changes in the market

following detariffication of virtually all classes of business since January 2007.

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CHAPTER – 15

DETARIFFICATION IS LIKELY TO BE ASSOCIATED WITH A PERIOD OF ADJUSTMENT

16.1 Adjusting for detariffication:

In order to be prepared for a virtually complete detariffed market, Indian insurers have had to pursue

detailed analyses of risks based on occupation, sum insured and geographic area to prepare for the new

regime starting in January 2007.

The new regime is helping to eliminate the frictional costs associated with administering the tariff and

to allow market forces to determine individual risk appetite.

However, as in any market, this is likely to be associated with a period of adjustment and predatory

pricing, and it may even include what some have termed a ‘blood bath’ for some lines of business that

have hitherto been excluded from the competitive pressures of market forces.

Experience of other markets, and the marine cargo detariffing in India, suggests that the initial period

of detariffing will result in a considerable erosion of the premium base as competition for good risks

drives down rates. Having realised the potential for large rate reductions, the IRDA has limited the

level of rate changes for various classes.

Fire and engineering rates may be reduced by up to 49% and motor rates by 20%. If an insurer wishes

to adopt rates lower than these ceilings, they will be required to file their rates and wait the IRDA’s

consideration. While this may not prevent the predicted ‘blood bath’, it does create administrative

costs associated with lowering rates substantially.

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16.2 Motor third-party (TP)

Motor third-party is traditionally considered an unprofitable sector and according to the Times of

India, rates would rise anywhere between 34% and 257% if the product was detariffed.89 In 2007, the

IRDA decided against a full detariffication of motor TP with the hope that premiums for this class of

business could be adequately increased. The IRDA has proposed an initial increase of 150% in TP

premium rates, which were later brought down to 70% once the transporters threatened to go on strike.

For our scenario, we have used the latest 70% rate increase for 2007 but have assumed that rates will

rise again by a further 10% in 2008. This is likely to be the minimum rate increase if the product is

detariffed and the transport sector can no longer exert political pressure. Once markets have adjusted

for this 10%, discussions have revealed that there may still be room for a further 20% in both 2009 and

2010 in order to converge to the initially proposed increase of 150%.

16.3 Motor own damage.

Motor own damage (OD) in contrast is profitable and being targeted by the private companies. In

addition, the decision to pool all commercial TP premiums could further provide an incentive for

private companies to target the more profitable OD sector. It is likely that this will put downwards

pressure on motor OD rates and the Times of India has predicted a 20% to 25% rate reduction in 2007.

For the first quarter of 2007, however, motor OD rates remained stable, although commentators have

suggested that they will be continually reviewed. As a result for our scenario, we have used a

relatively small rate reduction of 20% in 2007, followed by a further smaller reduction in 2008. Rates

are expected to rise again in 2009 and 2010.

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16.4 Property:

The local press has reported that insurers expected rate declines of between 15% and 30% for both fire

and engineering products due to the generally profitable nature of the business.

In the case of fire and engineering covers purchased by companies (ie excluding personal home

insurance), the IRDA has capped discounts in January at 49%. In addition, property rates may be

constrained by the price of catastrophe reinsurance purchased on the international markets. It is likely

that catastrophe business will become more differentiated and location-specific – as opposed to zonal

or country-wide rates under the tariff.

16.5 Health:

Health insurance should shoot up 100% if insurers try to cover the current losses with the same

coverage, according to an article published by the National Insurance Academy. However, the

regulatory situation may allow only a moderate rise, and competition is likely to push down prices in

an effort to gain market share in one of the fastest-growing business classes. Accordingly, our

conservative estimate is that premiums may rise by a mere 5% in 2007 and a further 5% in 2008.

16.6 Marine:

Being fully detariffed, marine and aviation lines have made extensive use of overseas capacity.

Insurance professionals believe that premium may go up in the marine segment has they have hitherto

been subsidised to some extent by fire business. At the beginning of the year, the Times of India

estimated that clients are expected to pay 10% more for goods in transit under marine insurance cover.

Other classes of business, including liability, are not expected to have significant rate movements as

their pricing has been unaffected by the tariff system.

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CHAPTER – 16

FORECASTING GROWTH BY CLASS

Using the assumptions detailed above, class-by-class growth has been forecast for 2007 to 2010.

In the first chart below, the 2006 growth rate per class has been used to extrapolate to 2010 premium

levels. In the second chart, the same growth rate has been applied, but thereafter adjusted for expected

premium rate changes as summarised in the previous section.

CHART : Constant growth rates

CHART: Growth with rate changes

While this forecast is fairly crude, a few clear conclusions can be drawn from a comparison between

the two charts shown above. These conclusions are supported by the soft intelligence discussed earlier

in this report.

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17.1. Slower growth in 2007

Firstly, premium growth in 2007 is much more modest when rate decreases are taken into

consideration. This reflects the general opinion that price wars in 2007 will eat into insurers’ premium

bases.

17. 2. Exponential growth from 2009 onwards

Secondly, the rate decreases early in the period clear the way for much more substantial growth later

on. As the insurance market adjusts to an open pricing structure, the model predicts strong growth in

2009 and 2010 (between 24% and 30% respectively) under the adjustable rate model.

While Premiums Will Slow Down Initially, There Will Be Increased Growth Towards 2010…

The total premium ends lower under the adjustable rate model (USD 12.6bn) than under the constant

growth model (USD 14.2bn), but higher than under the original premium extrapolation (USD 11.2bn),

making the Indian market expand by a premium volume equivalent to that of the total Norwegian

market in 2005.

With The Indian Market Expanding By the Size of the Norwegian Market between 2007-2010

This reflects our understanding of the dynamics of liberalisation: Detariffication will bring real

benefits to both Indian consumers and the insurance industry over the medium term. While short-term

price adjustments will lead to lower growth during the first one to two years, premium growth is

expected to gain momentum towards the end of this decade.

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17. 3. Changing product mix

Thirdly, the product mix changes significant when the expected rate changes are taken into

consideration. Most noticeably in this model, motor third-party increases substantially, taking into

consideration the increasing rates. In the past, motor TP has been considered unattractive due to low

rates and high loss ratios. Provided the rates are allowed to rise to a competitive level, this sector

should become more attractive.

The chart below compares the current class breakdown with the forecast class breakdown.

By 2010, India’s Product Mix Is Set to Resemble Those of Other Major Emerging Markets

CHART : Change in proportion of business mix (in %)

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17.4 Motor and Health Are Forecast To See the Most Significant Growth

With regards to motor premium, in particular, the forecast more accurately reflects the kind

of breakdown we would expect to see in a developing insurance market such as India. Motor

business in total accounts for just less than 50% of total premium. Motor TP, which typically

drives the development of motor business in a developing economy, accounts for a much

more significant share.

Finally, the other big winner is personal accident and health, which by 2010 will have become the

largest class after motor. Again this reflects current speculation that there is considerable potential for

growth here.

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CHAPTER – 17

Suggestion:

Insurance companies are now sensing a huge opportunity in credit insurance, following the

dispensation granted to them in the credit policy.

Private and state-owned companies are now looking at growing their credit insurance portfolio which

was at one time the exclusive domain of the Export Credit Guarantee Corporation of India (ECGC).

In monetary policy, RBI had said, “To liberalise further the procedures relating to settlement of claims

in respect of export bills, it is proposed to permit banks to write off, in addition to claims settled by

ECGC, the outstanding export bills settled by other insurance companies which are regulated by the

Insurance Regulatory Development Authority (IRDA).”

Total non-life insurance premium is expected to increase at a CAGR of 25% for the period spanning

from 2008-09 to 2010-11. With the entry of several low-cost airlines, along with fleet expansion by

existing ones and increasing corporate aircraft ownership, the Indian aviation insurance market is all

set to boom in a big way in coming years. Home insurance segment is set to achieve a 100% growth as

financial institutions have made home insurance obligatory for housing loan approvals. Health

insurance is poised to become the second largest business for non-life insurers after motor insurance in

next three years.

With a huge population base and large untapped market, insurance industry is a big opportunity area in

India for national as well as foreign investors. India is one of the largest markets in the emerging

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insurance economies globally and is growing at 32-34% annually. This impressive growth in the

market has been driven by liberalization, with new players significantly enhancing product awareness

and promoting consumer education and information. The strong growth potential of the country has

also made international players to look at the Indian insurance market. Moreover, saturation of

insurance markets in many developed economies has made the Indian market more attractive for

international insurance players.

The general insurance business is expected to grow from USD 1.8 billion (1998) to 12 billion in 2008.

The private companies would have an easier access to the general insurance business. The market

share of the newcomers will be 40-50% of the total market. The cause for better market penetration for

the new companies comes from the fact that it makes no difference for the insured to switch

companies. Unlike life insurance, it is not expensive to switch insurers. However, the lack of good

data would hamper the newcomers.

The insurance business in India is less than USD $1 billion at present (2000). In the near term (three to

five years), it is expected to double in size for two simple reasons. (1) Under the new regime, the

reinsurance requirements are higher (as a percentage of total insurance business). (2) Privately run

non-life insurance companies have a higher reinsurance requirement in the early years.

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CHAPTER –18

CONCLUSION

It seems unlikely that the LIC and the GIC will shrivel up and die within the next decade or two. The

IRDA has taken a "slowly" approach. It has been very cautious in granting licenses. It has set up fairly

strict standards for all aspects of the insurance business (with the probable exception of the disclosure

requirements). The regulators always walk a fine line. Too many regulations kill the incentive for the

newcomers; too relaxed regulations may induce failure and fraud that led to nationalization in the first

place.

India is not unique among the developing countries where the insurance business has been opened up

to foreign competitors. we observe that the openness of the market did not mean a takeover by foreign

companies even in a decade. Thus, it is unlikely that the same will happen in India, especially when

the foreign insurers cannot have a majority shareholding in any company.

Continued strength in the broader economy and gradual reform in the non-life sector are expected to

combine to produce strong premium growth in the Indian market over the next few years.

Whilst India currently remains a medium-sized non-life market, the growth predicted over the medium

to long term is attracting increasing levels of foreign investment and competition. Many of the world’s

largest insurers such as AIG, Lombard and Allianz are present in the market. The new private insurers

are growing fast and have already developed a combined market share in excess of 30%.

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CHAPTER – 19

BIBLIOGRAPHY

www.coface.com

www.actuaries.in

www.adb.org

www.asiainsurancepost.com

www.asiainsurancereview.com

www.bajajallianz.com

http://www.blonnet.com

www.imf.org

www.dbresearch.com

www.dnaindia.com

www.eiu.com

www.ey.com

www.mckinseyquarterly.com

www.ficci.com

www.forbes.com

www.pwcglobal.com

www.indianauto.com

www.insuranceday.com

www.irdaindia.org

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www.worldbank.org

www.kpmg.co.in

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