Source of Earnings - Actuarial Society of Hong · PDF fileSource of Earnings Hong Kong...
Transcript of Source of Earnings - Actuarial Society of Hong · PDF fileSource of Earnings Hong Kong...
Source of Earnings
Hong Kong Appointed Actuaries SeminarNovember 17, 2004
Keith WeaverSenior Vice-President & CFO, Asia
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Agenda
• What is the SOE Analysis?• Canadian GAAP Examples• USGAAP considerations• How is SOE used?• Draft Canadian Standards• Use with other Accounting Bases• Issues and Complications
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What is the SOE Analysis?• SOE is a methodology for identifying &
quantifying the various sources ofincome
• Presentation of net income in a formatwith emphasis on these sources ofincome
• Besides CGAAP, SOE is also used inUGAAP
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Canadian GAAP Examples• CGAAP uses a gross premium valuation
basis• Reserve is best estimate liability with
provision for adverse deviation (PfAD)• Most actuarial assumptions are explicitly
valued including:• Mortality, morbidity, lapses, surrenders• Expenses (both acquisition and maintenance)• Interest, policyholder dividends
• The SOE has a separate line for eachassumption, comparing the actual to theexpected
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Sample CGAAP SOE
Manulife Financial 2003 Annual Report
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Source of EarningsComponents• Expected earnings on inforce• New business impact• Experience gains & losses• Changes in actuarial methods and
assumptions• Earnings on surplus funds• Income taxes• Net income attributed to shareholders
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Expected Earnings on Inforce
Canadian GAAP• Expected income from inforce business
based on the achievement of expectedassumptions
• Expected PfAD release on insurance products• Expected net fee income on “DAC”
products• Expected profit margins on short duration
products• Growth in inforce should result in increasing
trend of this line
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Expected Earnings on InforceUS GAAP• Expected profit margins on premiums
(FAS 60) / expected gross profits (FAS97 UL) / expected gross margins (FAS120)
• Net of DAC amortization, deferredprofit impact (URL, DPL, etc)
• Net of overhead expenses (Manulife’sapproach)
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New Business Impact
CGAAP• Point-of-sale impact• Minus increase in “time zero”
reserve on insurance products• Minus non-deferrable acquisition
expenses on DAC products• Include gains / losses from acquisition
expenses
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New Business ImpactCGAAP “time zero reserve”• CGAAP values on a Gross Premium basis
using best estimate explicit assumptions withmargin for adverse deviation (MfAD)
• At policy issue, the “time zero” reserveequals the capitalized profits less thecapitalized impact of MfAD
• “Time zero” reserve could be +/- vedepending on the profitability VS the impactof valuation margins (PfAD)
• Actual acquisition may be different fromassumed in “time zero” reserve & thevariance is included in new business impact
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New Business Impact
USGAAP• Similar to Canadian GAAP• “Time zero” reserve is zero by
definition of net premium• Minus non-deferrable acquisition
expenses
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Experience gains & losses
CGAAP• Variance between actual experience
and expected assumptions oninsurance products
• Variance between actual & expectednet fee income on DAC product
• Conservative assumptions shouldresult in experience gains
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Experience gains & losses
CGAAP• Experience gains could be broken
down into mortality & morbidity,lapses, expenses, investments,currency changes
• Lapse gains could be broken down intofrom lapse supported products & fromnon-lapse supported products
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Experience gains & lossesUSGAAP• Similar to CGAAP• Expected assumption would be pricing for
FAS 60 products• In effect, capture the impact of actual net
profit margins on premium/ EGP/ EGM lessthat of expected
• Net of DAC amortization, deferred profitimpact (DPL, URL, etc)
• For investment gains, may split out therealized gains impact
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Changes in actuarial methodsand assumptionsCGAAP• Measure the capitalized impact of changes in
future estimates on current period income• Management actions• Changes in best estimate assumptions• Changes in margins for adverse deviations• Changes in valuation methodology• Correction of errors
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Changes in actuarial methodsand assumptionsUSGAAP• Similar to CGAAP• DAC unlocking impact• Loss recognition impact
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Earnings on Surplus FundsCGAAP• Net investment income on surplus
asset
USGAAP• Ditto, but investment income & surplus
are different from GAAP to GAAP• May split out the capital gains impact
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Income Taxes
CGAAP• Equals current taxes plus deferred
taxes
USGAAP• Similar to CGAAP
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Source of EarningsComponents• Expected earnings on inforce• New business impact• Experience gains & losses• Changes in actuarial methods and
assumptions• Earnings on surplus funds• Income taxes• Net income attributed to shareholders
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Use with Other AccountingBases• SOE would reflect how profit emerges• For CGAAP, earnings are assumed to
emerge as a PfAD release• For USGAAP, earnings are assumed to
emerge in proportion to grosspremiums (FAS 60) , EGP (FAS 97UL)or EGM (FAS 120)
• For Australian GAAP, earnings areassumed to emerge in proportion toprofit carriers
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How is SOE Used?• Manulife: quarterly earnings by product line
are analyzed using the SOE• Errors in reserve calculations are identified• Problems with experience and pricing are identified
• Management can review simplified forms andidentify trends in business.• Distinguish underlying trends from volatility of
experience gains & losses• The earning impact of new business & policy lapse
is identified, which are not trivial from the incomestatement
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How is SOE Used?• Canadian Life Companies: Simplified
SOE is disclosed at the company ormajor segment level• Allows investment analysts to gain
confidence in the profit margins andearnings emergence
• Greater transparency & betterunderstanding
• Peer company comparison• Highlights basis changes: no surprise if
consistent gains/ losses were shown
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Draft Canadian Standards
• OSFI draft guideline no. D9Sources of Earnings : Disclosure (lifeinsurance companies)
• CIA draft education notesSources of earnings : Determinationand disclosure
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Issues and Complications
• Different product lines may havedifferent source of earnings,generating unique SOE lines• e.g. USGAAP FAS60, FAS 97, FAS 120
• SOE may not naturally fit with otheraccounting basis, adding complexity
• Complexity can reduce value tomanagement
• Calculations are complex
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Issues and Complications
• Maintain consistency over time &between line of business
• Balance the need of internal user &external user
• Par business : impact of past-throughgains/ losses
• Group business : determination of newbusiness impact
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Conclusion
• SOE is a useful analytical tool• Benefits are improved control of the
reserve mechanism and enhancedunderstanding of the dynamics of theearnings stream of the business
• Calculations are complex
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Questions andAnswer Session