FINANCIAL SERVICES

ADVISORY

Non-executive directors in the Insurance IndustrySteve Roder, Partner In Charge, Financial ServicesKPMG China and Hong Kong SARJuly 12 2005

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All governance is not alike

Banks play an important role in Germany.

The government is an important stakeholder in France.

Employees have an important role in the Netherlands and Germany.

Shareholders have a key role in Australia, Canada, the United Kingdom, and the United States.

Families have a central role in many Asian countries.

Economic and cultural differences have influenced governance.

Source: KPMG – A New Focus on Governance

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Directionally consistent – more governance not less

UK Cadbury Report

Global accountingscandals

International triggering events

HK CG initiatives

• SCCLR CG proposals (phase 1)

• HKEx Consultation on CG issues

• HKEx Consultation Conclusions on CG issues

• FSTB Corporate Action Plan

• SCCLR CG proposals (phase 2)

• Amendments to Listing Rules for CG issues

• Revised Code on CG Practices

• Requirement of CG Report

• Code of best practices

• Disclosure in Annual Reports

• Guidelines on INEDs

• Requirements on directors

1993 - 2000 2001 2002 2003 2004

Governance in HK listed companies is an example.

Source: Hong Kong Exchanges and Clearing

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D & O Liability premiums

US $8 billion

Europe $1 billion

Asia $100 million

Source: Swiss Re, Asia Insurance Review February 2005

An indicator of the level of director discomfort?

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Asia can expect some of the same

Asian companies listing in US or Europe

Sarbanes Oxley applies to foreign registrants

Opening up of government and family owned companies

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Accounting scandals have thrown a spotlight on governance

“Audit committees are meeting 8-10 times a year instead of 4”

“The documentation and paperwork …. is off the charts”

“You don’t have the free lunch like you had …….”

Source: Business Week – The Boss on the sidelines – April 2005

NEDs are under increased pressure

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Increasing governance requirements laid down by regulators

Australia – APRA draft Prudential Standard

Hong Kong – Office of the Commissioner of Insurance Guidance Note

Singapore – MAS Guidelines

All require NEDs ……. seeking to protect beneficiaries.

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APRA leading the way in Insurance Reform

“ ….. duty as the prudential regulator …… to look after the interests of beneficiaries …. and ensure their interests are not compromised ……. “

“…….. appreciably different from that of ASX which is responsible for ensuring the operation of a transparent accessible and accountable market ……..”

“APRA needs to be confident that governance arrangements are robust.”

Source: Governance for APRA – regulated institutions, May 2005

Taking governance beyond the listed company benchmark.

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APRA ….. Expecting great things

“The chairperson of the board should be an independent non-executive director.”

“A majority of the Board Audit Committee must be independent non-executive directors.”

“The Board Risk Committee members should be non-executive directors.”

“At least one independent non-executive director on the Board should have financial expertise ……”

Source: Governance for APRA – regulated institutions, May 2005

NEDs will be very prominent in the governance of all insurers.

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Insurance NEDs have it tough

• Business model

• Global structures

• Jargon

“It takes years to get up to speed ………” – Public Co NED, May 2005

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What makes it tough?

• Premium before claim- insureds only find out later if key get value for money

• High technical content- matched only by derivatives activity in the banking arena

• Long tail exposure – “the black box”

“Manufacturers just count the inventory and reconcilethe cash ……” – Public Co NED, May 2005

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A plethora of audit committees?

Parent

Sub Sub Sub

Sub Sub Sub Sub

Different committees with different requirements and knowledge

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Is it that simple at subsidiary level?

Parent

Global Product

Global HR

Global IT

Legal structure ≠ Management structure?

Sub Sub Sub

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A serious shortage of suitable talent …….

SITUATION VACANT

NED …….. Insurance Industry

… made worse through trepidation and the need to refresh the Board

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Advice for NEDs

Line of sight transparency over drivers of value and associated risks

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Example of Audit Committee Input

Helping NEDs understand the risks and judgements

Analysis of key assumptions underlying the financials and whether they are appropriate

The assumption appears conservative considering both entity specific factors and industry experience

The assumption appears realistic considering both entity specific factors and industry experience

The assumption appears aggressive considering both entity specific factors and industry experience

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Example of Audit Committee Input

Assumption and process overviewAnalysis of experience versus assumptions

Assumption positioning Conclusion

Litigation In 2004, two bankruptcy cases were brought against ABC Company for non-payment of debts. These have been over-turned by the courts. Subsequently, the curator of the first case has sued for payment of his costs. We understand that his has also been over-turned. ABC Company has provided in full for all outstanding legal fees but not for the curator fees.

ABC management have stated that all the cases against the company have been found in their favor and therefore no provision for damages has been made.We have written to the two legal advisors to confirm their understanding. One has replied confirming management’s view. The second is outstanding but is expected to confirm management’s statement.

The accrual appears reasonable

Provision for unrealised loss on structured notes - Taiwan

In the third quarter of 2004, due to liquidity issues associated with the structured notes market in Taiwan, approximately 25% of the market value of bond funds were withdrawn by investors. In Q4 2004, the Taiwan SFC amended the regulations to prohibit the country’s bond funds from acquiring structured notes.In Q4 2004, the Taiwan SFC stated that it does not expect the investors to lose out from the early redemption of structured notes. At 31 December 2004, ABC Company held NT$ X billion of structured notes.

On 31 December 2004, ABC Company booked a realized loss of NTD Y million in respect of the sale of NT$ Z billion of structured notes. A provision of NT$ S million has been recognised in respect of a potential future sale of NT$ T billion of structured notes.ABC company are currently reviewing whether the current level of provision is considered adequate.

We will review the ABC paper on the provision for unrealised losses associated with the structured notes when it is available in order to assess the adequacy of the provision.

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Advice for NEDs

Line of sight transparency over drivers of value and associated risks

Understand the full range of reporting responsibilities – different regulators, different forms of GAAP

Ensure access and dialogue with key personnel, regardless of group structure

Clarify communications between audit committees in the same group

Access to independent advice

Arrangements for continuous briefing and learning

Plenty of D & O cover