The fourth case of insolvency is now being dealt with, and the regulators want to assure that it’s the last.
Just a few years ago, the shaky financial condition of some of Taiwan’s life insurance companies was a source of nagging concern. At stake were the interests of hundreds of thousands of policyholders and therefore the credibility of the government as the protector of financial stability. Worried observers speculated that the future might bring a major crisis posing severe social and political implications, with National Chengchi University finance professor Norman Yin describing the situation as a “ticking time bomb.”
After years of delay and irresolution, however, the regulators and the Legislative Yuan more recently have adopted measures to bring the industry under greater financial discipline. It now appears that a soft landing is being achieved – albeit at significant cost to the taxpayer.
In recent years, the Financial Supervisory Commission (FSC) has acted to take four insolvent insurers under receivership so as to improve their operations before putting them on the market through a type of public auction in which bidders compete based on the amount of compensation they are seeking from the authorities. A key player in this process is the semi-official Taiwan Insurance Guaranty Fund (TIGF), which oversees an insurer’s operations during the period of receivership and prepares an exit strategy that will safeguard the interests of employees and policyholders.
TIGF’s basic source of funds is designed to be a levy on insurance companies’ premium income, with differentiated rates (all a fraction above 0.12% for life insurers and 0.18% for nonlife insurers) according to the companies’ degree of financial risk – the higher the risk, the higher the rate, so as to encourage financial prudence. But since the amount in the fund was insufficient to cover the costs of resolving the first three cases of receivership, TIGF was allowed to apply to the FSC for a special reserve from the business tax on financial institutions, on condition that its budget is approved by the Legislative Yuan. Currently the life insurance guaranty fund has accumulated debt of about NT$29 billion, while the non-life fund holds a balance of NT$3 billion.
In the latest receivership case, the government in late January took over control of Taichung-based Chaoyang Life Insurance, a company with 230 employees and some 98,000 customers holding 123,000 active insurance policies. As reported by the Taipei Times, FSC Insurance Bureau Director-General Jenny Lee told a news conference at the time that “the company has repeatedly failed to carry out its proposed financial improvement measures and its negative net worth continued to worsen.” She said Chaoyang was NT$2.2 billion (US$65.23 million) in the red at the end of last year.
The regulator suspended Chaoyang’s board of directors and top executives, and assigned temporary management responsibility to TIGF. Established in 2009, the Fund has a staff of 40 specialists. Of its 13-member board of directors, nine are appointed by the government and two each by the life insurance and non-life industry associations.
To handle the Chaoyang case, “we’re currently designing a transaction model – whether for a financial buyer or a non-financial buyer – to submit to the FSC for approval,” says TIGF Chairman Lin Kuo-bin. “We expect to be able to hold an auction before the end of September, although we don’t know whether the new government will want to delay the schedule to review the case.”
In the meantime, TIFG’s financial advisor will be contacting potential buyers, including at least one foreign company that has expressed interest, “to see what is the favored model or conditions,” explains Lin. Most likely, the transaction model would follow the pattern used in the previous three cases – transfer of the assets and insurance policies of the entity under receivership to the company that wins the auction by bidding the lowest figure for compensation.
But other models are possible – for instance, an M&A deal to merge the distressed company with a healthy one, or the emergence of new investors to inject enough capital into Chaoyang to become the major shareholder and continue its business.
Lin says an unknown factor is whether the Taichung location of the Chaoyang headquarters will have an impact on prospective interest in a takeover. The distance from Taipei is already a complication for TIGF, which every day is stationing 20 personnel in Taichung – half its total staff – to supervise the Chaoyang operations.
The first case handled by TIGF was the long-troubled Kuo Hua Life Insurance Co., which the government took over in August 2009. Afterward the first two auctions failed to attract any bidders, but the next round – in November 2012 – had three contenders. The winner, TransGlobe Life – originally Aegon Life before the European investor was bought out by local interests – received NT$88.36 billion (about US$3 billion at the exchange rate at the time) from TIGF in return for taking over Kuo Hua’s assets and insurance liabilities.
Two more government takeovers – of Global Life and Singfor Life – occurred in August 2014. In March 2015, Cathay Life beat out three other bidders to win the auction to assume the assets and liabilities of the two insolvent insurers in exchange for payment of NT$30.3 billion (about US$968 million).
Besides these cases, the authorities have also successfully demanded that several other life insurance companies – notably Hung Tai and Far Glory – strengthen their financial position by injecting additional capital and cleaning up their asset portfolios.
Another highly positive development, says TIGF Chairman Lin, is that the Legislative Yuan last year amended the Insurance Act to set a mandatory standard for when financially ailing insurers must be placed in government receivership. The step takes discretionary power out of the hands of regulators, ensuring that the decision is not affected by political influences or other external considerations. Under the provisions of the amended law, which came into effect this January, the FSC is obligated to take over an insurance company if its risk-based capital (RBC) ratio falls below 50% and the company has failed to correct the situation before a set deadline.
The RBC process takes into account the various types of risk facing a company – such as insurance risk, investment risk, depreciation of assets, and other business risks – and rates the sufficiency of its net worth to cover those risks. Under FSC regulations, insurance companies are supposed to maintain RBC ratios in excess of 200% – meaning that they have two dollars of capital for every dollar at risk.
When the RBC ratio is below 200 but higher than 50, the regulator has various tools at its disposal to push the company to improve its finances. Depending on the severity of the situation, for example, it may variously demand capital injections, replace the board or management, prevent the payment of dividends to shareholders, and/or block the issuance of new types of insurance policies.
Following the Chaoyang takeover, is there confidence that no other problem companies remain to be discovered? “According to their RBC and financial statements, all the remaining companies should be qualified and considered safe,” says Lin. “However, we can’t be totally sure that there isn’t any cooking of the financial statements or other underlying problems.”
To strengthen regulatory scrutiny, the FSC is under instructions from the Legislative Yuan to create an early warning system to detect any weakening in an insurance company’s financial position before it reaches a critical stage. With the help of advisors, TIGF is currently starting work on designing a model. “The goal is to find what indexes can predict insolvency,” says senior research fellow Hermes Yang. “Maybe we’ll find 20 or more – such as indexes related to equity, liquidity, insurance policy reserves, etc. – and then we’ll seek to combine them into a single index.”
More broadly, the FSC and TIGF see an opportunity to learn from what went wrong in the four companies that wound up insolvent and under receivership. At the core, says Chairman Lin, were such factors as inadequate corporate governance and internal controls leading to bad investment decisions or even criminal improprieties (the former chairman of Singfor has been indicted for misappropriation of funds). “The boards of directors need to be more actively involved in monitoring daily operations and evaluating large-size investments,” Lin says. He notes that such supervision can often best be undertaken by board-level committees.
In its submissions to AmCham Taipei’s Taiwan White Paper in recent years, the Chamber’s Insurance Committee has had some other suggestions for approaching the issue of the insurance industry’s financial stability. At the top of the list is increased public education, providing consumers with more information to enable them to evaluate the soundness of an insurance company before taking out a policy. The educational program also needs to raise awareness among consumers that the government is not legally bound to bail out troubled insurers, and that resolution of insolvent companies might wind up with policyholders holding less coverage than they originally contracted for, as has happened in Japan and other markets. That understanding would reduce the moral hazard of consumers chasing unrealistically high returns in expectation that the government would come to the rescue in case of any difficulties.