The new insurance contracts accounting standard recently published by the International Accounting Standards Board (IASB) brings greater comparability for investors and analysts, according to KPMG International.
The organisation welcomes the publication of the new, long-awaited accounting standard for insurance contracts, IFRS 17. This new, comprehensive accounting model is 20 years in the making and heralds an end to the lack of comparability in the insurance sector.
Due to take effect on 1 January 2021, the new standard is the result of years of discussion, exposure drafts and debate. Although it has long been recognised that current accounting practice did not offer sufficient comparability between the financial positions and performance of insurers in different jurisdictions and with companies in other industries, the complexity of insurance accounting and variety of products meant that agreeing on a new standard was an extremely challenging task.
“We welcome the new standard and congratulate the IASB on this significant milestone after years of endeavour,” says Gary Reader, KPMG’s Global Head of Insurance and a partner with KPMG in the UK. “The greater comparability and greater transparency that IFRS 17 provides should be a clear benefit to analysts and users of financial information.
“For the first time, insurers will be on a level footing internationally. It will open up the ‘black box’ of current insurance accounting. However, these and other potential benefits will only come through the hard work of implementing the new standard, which we expect will raise several challenges for the sector. It will be a tough task for many.”
Key effects of the new standard
The new standard will give users of financial statements a whole new perspective. The ways in which analysts interpret and compare companies internationally will change. Increased transparency about the profitability of new and in-force business will give users more insight into an insurer’s financial health than ever before.
* Separate presentation of underwriting and finance results will provide added transparency about the sources of profits and quality of earnings.
* Premium volumes will no longer drive the ‘top line’ as investment components and cash received are no longer considered to be revenue.
* Accounting for options and guarantees will be more consistent and transparent.
These have the potential to reduce the cost of capital for leading insurers. Greater comparability could facilitate merger and acquisition activity, encourage greater competition for investment capital and help gain the trust of investors.
At the same time, there are likely to be a number of other effects. For example, there could be greater volatility in financial results and equity due to the use of current market discount rates. Insurers may also need to revisit the design of their products and other strategic decisions, such as investment allocation.
Impact on insurers will vary widely
The impact of the new standard will vary significantly between insurance companies.
Gerdus Dixon, Insurance Leader for KPMG in South Africa, says: “The significance of the impact of the new standard will depend on an insurer’s previous accounting policies. This is especially true in the life insurance industry where insurers have historically applied different policies to profit recognition, and discretionary margins. South African life insurers have an added interest in this standard that, once implemented, will form the basis of income tax payable by these insurers. Short-term insurers, on the other hand, may have a lesser impact on their profit recognition but their presentation basis will change substantially.”
The implementation date of 1 January 2021 may seem a long way off, but the timescale will be a challenge for many.
Implementing the new standard will require substantial effort, and new or upgraded systems, processes and controls. This task will be even more challenging given the long time horizons over which many insurance companies operate and the legacy systems that many still use.
Peter Withey, senior Life Actuary for KPMG in South Africa, commments: “For many insurers, adopting the new standard will offer challenges in that the building block approach underlying the new standard requires insurers to identify portfolios and groups of insurance contracts and track development in these over time. While this will require judgement from management, it needs to be based on complete and accurate policy data and a lot more historical data than insurers have considered in the past. A coordinated response will be essential. Finance, Actuarial and IT functions will need to work closely together like never before. The key to it all will be access to quality data.”
Forward-looking insurance groups have already started analysing what the changes mean for them – don’t underestimate the need to evaluate and test new systems and processes, and educate business users and investors.