Insurance company risk and fair value disclosures must improve in order to rebuild stakeholder confidence and withstand detailed market scrutiny

International insurance groups are satisfactorily complying with the new requirements of International Financial Reporting Standards (IFRS) in their recent annual reports. However, despite being expected to present risk through the ‘eyes of management’, few companies are going beyond the minimum to provide new insights into how their exposures are managed or convey how risk forms part of the rationale for their strategic decisions.

“Any step forward in the relevance and usefulness of disclosure by insurance groups was therefore modest” says Barry Stott, PricewaterhouseCoopers SA Financial Services Director, commenting on the findings contained in a recent PwC global survey ‘Called to account: A survey of insurers’ 2007 IFRS annual reports’.

The survey analyses the 2007 annual reports of 25 large insurers, prepared according to IFRS, including Liberty and Old Mutual. It examines how insurers are applying the latest developments in IFRS and what further work may be required to meet growing analyst, investor and regulatory demands for greater transparency.

A key focus of this study was to consider the implementation of a number of IFRS amendments impacting insurers in their 2007 year-end accounts (these amendments being relevant to financial instrument disclosures (IFRS 7); sensitivity analysis and analysis of the risks pertaining to insurance-related assets and liabilities (IFRS 4); and requirements relating to capital management such as objectives, policies, procedures and mandatory disclosure of external capital requirements (IAS 1)).

“The overriding message that emerges from the PwC survey is that insurers must adopt a strategic approach to their financial reporting in order to convey what is actually going on in the business in an open, coherent and intelligible way” says Stott.

Insurers are now required to provide an onerously long list of mandatory disclosures in their annual reports. “Disappointingly, this heavy burden appears to have left many insurers with little appetite to offer the broader discretionary information that would convey how they actually manage their risks” says Ilse French, PricewaterhouseCoopers SA Insurance Technical and Knowledgement Management Director. “There is the argument that if the International Accounting Standards Board reduced the level of these mandatory disclosures, insurers may perhaps be more willing to provide extensive meaningful information that is relevant to their particular circumstances.”

Despite many insurers falling short of making meaningful risk management disclosures, French says some companies did rise to the challenge. “Their levels of disclosure go beyond mere compliance and give coherent insight into the strategy and strength of the business. Their transparency means it becomes much easier to assess a company’s approach to risk management and the risk-reward rationale of key decisions. Meaningful disclosures by these companies will help sustain market confidence in the industry.”

French says that those which kept to basic compliance in their annual reports may have missed an opportunity to enhance market confidence. “In some instances, we found that qualitative disclosures were broad and generic. And outside of the annual reports, additional information given to analysts relating to subprime issues did not provide comprehensive insight into the broader aspects of risk management. Also, analyst information should ideally be included in the annual report where it would be verified and therefore more credible.”

For those which did not rise to the challenges of the 2007 reporting season, Stott says a further challenge in the form of regulatory reporting including Financial Condition Reporting.. “This impending regulation means more extensive and probing risk disclosures and insurers could find it harder to convince investors, supervisors and other key stakeholders that risk is genuinely embedded into the governance and decision-making strategies of the business.”

French says that yet another hurdle awaits insurers. “They need to prepare themselves for the IASB’s proposed disclosure amendments to IFRS 7. These expected changes seek to enhance transparency about fair value measurements and liquidity risks.

“We expect these IFRS7 amendments to be effective for 2010 financial year ends. However, in the light of global volatility and uncertainty, stakeholders may put significant pressure on insurers to move to early adoption of the amendments. Insurers intent on restoring the confidence of analysts, investors and regulators, and who also seek to reduce their cost of capital, will look to improving their levels of disclosure – whether it be through early adoption of accounting changes or a general improvement in meeting existing disclosure requirements.”

French highlights that the expected IFRS 7 amendments would require careful explanation and justification from insurers. “It is also important that these changes be embedded into a cohesive strategy for risk disclosure, as we anticipate that analysts will be keen to know the sensitivity of assumptions to key risks and the impact of any valuation uncertainty on the overall risk profile.

”Some insurers are already analyzing how expected revisions to accounting standards and new legislation will impact them. They are revisiting their capital and risk disclosures, as well as addressing potential challenges and questions around fair value, liquidity and sensitivity analysis.

“At a time of considerable market instability and uncertainty, the latest developments in insurance disclosures should be seen as a valuable opportunity to strengthen stakeholder confidence and compete more effectively for investment. They could also help companies to prepare for the planned overhaul of regulatory reporting and a finalised IFRS standard for insurance contracts” concludes Stott. “In the immediate future, the preparation of the 2008 annual reports is likely to be highly challenging, as insurers will need to respond to intense stakeholder scrutiny.”