PROFITS FOR INSURERS are at historical highs, with the industry once again recording strong growth in annual gross revenue, but the rosy figures may hide underlying risks, according to analysts.
This month, the Australian Prudential Regulation Authority (APRA) reported that at the end of the last financial year insurers it regulates earned gross premium revenue of $28.2 billion, an increase approaching $1 billion on the previous year.
Gross incurred claims came in at just $17.7 billion for the 2005-06 financial year.
“In terms of risk-based capital measures, the industry’s capital coverage is currently 2.36 times the minimum capital requirement, a figure that has been rising since 2003,” said APRA member John Trowbridge.
However, consultants at JP Morgan and Deloitte point out that the high level of profits being garnered is leading to intense competition, which is driving premiums down and leading insurance companies to take on more risk.
“The insurance industry at the moment is still at a point where it’s making very, very high levels of profitability,” said Shane Fitzgerald, a senior insurance analyst at JP Morgan.
“On almost any measure you wish to look at, the level of profitability in the industry’s at an all time high and remains at that level. It’s been there for about the last two or three years.”
APRA’s figures show net profits for the industry as a whole were $5.6 billion for the 2005-06 financial year, compared with $4.7 billion the previous year and just $2.8 billion at the end of June 2003.
The profits have attracted competitors from overseas and this in part has driven premium rate reductions of about 9 per cent across the industry last year, which followed similar cuts in the previous year.
Importantly, Fitzgerald said “about 40 per cent of the underwriters in the last 12 months have actually increased the terms and conditions on the contract. It doesn’t sound like a lot, but what it actually means is if I increase my terms and conditions I’m taking on more risk in terms of the insurance that I’m writing.
“If I’m doing that at a time when prices are falling, it will start to fit into the deterioration in margins of profitability.”
He said the reported earnings from insurers are “not showing the wear and tear” of the reduced margins from premium reductions.
“There’s an issue being played here about the reserve releases that insurers have. Typically what insurers do during good times is they report their profits, but they hide some money away in the balance sheet, in the reserves,” he said.
“So what’s known as the actual year result in the upswing of the cycle is much better than what is actually being reported. When the cycle turns down, what you do is you release those reserves and try to smooth out your earnings as best as you possibly can.
“One of the games or issues that the industry has to get its head around is what sort of profile of profits is going to happen going forward because if they release too many of the reserves too early on, they can run out of reserves before the cycle turns and you can see a big gap in profitability.”