Lessons from four property and casualty insurer failures

The Property and Casualty Insurance Compensation Corporation (PACICC) has produced a new report called “Why insurers still fail - Mapping the road to ruin: lessons learned from four recent insurer failures.”

Even though no P&C insurers in Canada have failed since 2004, the organization regularly reports on the systemic risks associated with insurer failure.

Judy Peng, Grant Kelly, and Ian Campbell summarized their analysis of insurer failures that occurred in the United States (Merced P&C Company) and New Zealand (CBL Insurance) in 2018, in China (Anbang Insurance Group Co.) in 2020, and in Denmark (Gefion Insurance A/S) in 2021. 

The four cases analyzed show that the causes are the same as those that led to bankruptcies in Canada: Internal operations (in Denmark), organizational structure (in New Zealand), and insufficient regulatory oversight (in China).

The authors also identify a fourth common cause: Natural disasters, which played a decisive role in the California bankruptcy. Poor assessment of naturally occurring perils such as earthquakes, floods, hurricanes or tornadoes, forest fires, and landslides can trigger catastrophic losses for insurers. The frequency and severity of natural disasters are increasing due to climate change.

The Danish case  

Gefion was founded in Copenhagen in 2014. The company became insolvent due to its overly rapid expansion. Its combined ratio was below 100 percent in only one of six years, 2017, the only year the insurer turned a profit.

The Danish regulator’s inspection in November 2018 found several issues with the company’s operations. In terms of management controls, governance was inadequate. In addition, the solvency ratio was insufficient to cover regulatory capital requirements. The loss ratio was also used incorrectly to determine pricing, and reinsurance costs were underestimated. There was also insufficient compliance with the rules on own risk and solvency assessment.

In November 2019, the regulator ordered the insurer to prepare a recovery plan that would notably help it meet its capitalization requirements.

In March 2020, Gefion was ordered to stop writing new policies. In June, the insurer’s licence was suspended and it could no longer renew existing policies. The company went bankrupt a few weeks later. Some 600,000 policyholders across Europe were affected.

The Danish Guarantee Fund only covered risks for policies written in Denmark. This type of fund does not exist in all jurisdictions. It is therefore not yet clear what losses consumers elsewhere in Europe sustained.

New Zealand  

The insurer CBL Insurance Limited (CBLI) was founded in New Zealand in 1973. It specialized in construction insurance and bonds. The insurer operated around the world, including France, the UK, Australia, and Ireland. CBLI was a wholly owned subsidiary of CBL Corporation (CBLC), a company listed on stock exchanges in both New Zealand and Australia.

The insurer expanded rapidly between 2012 and 2018, particularly in the French market starting in 2013. That year, gross written premiums totalled NZD165 million (nearly C$133 million), of which only NZD 2 million was held by New Zealand customers.

Premiums soared to NZD 247 million in 2016 and NZD 313 million in 2017. The insurer’s expansion was fuelled by the purchase of several MGAs in Europe. The solvency ratio bottomed out in December 2017. Loss ratio indicators suggested good performance, but it was later discovered that the numbers were substantially exaggerated.

Even though the New Zealand regulator suspected the insurer was under-reserved, CBLI consistently maintained the opposite. The insurer was significantly underestimating future claims for its construction and real estate products, which have long-term liabilities. As a rule, claims costs increase faster than premium income for this type of policy.

As early as 2017, European insurers in the various countries where CBLI was underwriting risks faced difficulties with their regulators for not maintaining large enough claims reserves. The insurer was declared insolvent in November 2018 and liquidated in May 2019.

CBLC’s organizational structure allowed CBLI to operate as a reinsurer in Europe and write the majority of its volume outside of New Zealand without adequate local supervisory scrutiny. Capital reserves were also insufficient.

In addition, the New Zealand regulator allowed the situation to deteriorate because the insurer was writing few policies in the country. Finally, CBLI relied heavily on outsourcing for fundamental operations including underwriting, pricing, and claims management.

The Chinese case  

Anbang P&C was founded in October 2004 with a registered capital of RMB 500 million (C$95 million). Initially active only in property damage insurance, the company gradually added other components in personal insurance and employee benefits. Anbang Insurance Group was established in 2011.

Under the leadership of businessman Wu Xiaohui, who had strong political ties, the Anbang Group became a major financial conglomerate between 2011 and 2017 by making acquisitions not only in banking, but also in retirement homes, hotels, and securities, both inside China and abroad.

In March 2011, the acquisition of a commercial bank in Chengdu province, four times the insurer’s size, catapulted Anbang into the limelight. In October 2014, the insurer bought the Waldorf Astoria New York hotel in Manhattan from the Hilton chain for US$1.95 billion.

Through a subsidiary, Cedar Tree Investment Canada, the insurer purchased Retirement Concepts, the largest retirement home chain in British Columbia, for approximately C$1 billion in 2016.

The Anbang Group has financed its many acquisitions using the premiums from the sale of wealth management products (WMPs), which are commonly sold in China. WMPs typically offer a high, so-called guaranteed return.

Between 2015 and 2017, according to court records, Anbang sold these WMPs to 10 million individuals for collateral exceeding RMB 1.5 trillion, which exceeded the approved limit by 723,867. 

In addition, the insurer applied cosmetic techniques in order to bolster its underwriting performance. For example, it stated that RMB 8.43 billion of its RMB 15.43 billion in income came from “investment in real estate.”

The group also artificially inflated the value of its assets by multiplying subsidiaries and encouraging cross-holding of shares among the owners.

Wu stepped down in June 2017, and in February 2018 the Chinese regulator announced that it was taking over the insurer’s operations. The China Insurance Security Fund, the national insurance guarantee fund, fully backed by the Ministry of Finance, injected RMB60.8 billion into Anbang in April 2018. Two months later, the company's net assets were RMB -82.8 billion, a difference of RMB 154B compared with the amount reported on the 2016 financial statements. The liquidation was supposedly set in motion in September 2020.

The failure was caused by gaps in the regulatory framework, governance deficiencies, overly rapid growth in markets where the insurer had no experience, and fraud.

The United States

The last case studied by the PACICC team of authors is the bankruptcy of P&C insurer Merced that occurred in the United States in 2018. Customers insured by the company had been hit hard by wildfires in California in November 2018.

Founded as a mutual in 1906, the company earned its revenue largely from selling homeowners insurance in California. The insurer demutualized 2006 following its acquisition by United Heritage Financial Group (UHFG).

In 2017, 60.5 percent of its policies and 81.4 percent of its direct written premiums came from homeowner coverage. Many similar regional insurers also have a large concentration of their risks in vulnerable areas in California.

As a result of climate change, California’s fire season, which normally lasts from late spring to early fall, was two months longer in the mid-2010s than in the 1970s and 1980s. The average area struck by wildfire more than doubled between 1987 and 2018.

The November 2018 “Camp Fire” was sparked by the powerline of Pacific Gas & Electric. Face with liability lawsuits estimated at US$30 billion, the utility firm was forced to file for bankruptcy in January 2019.

The disaster scorched more than 150,000 acres (or 60,702 hectares), killed 86 people and destroyed 18,793 buildings, racking up an estimated US$17 billion in insured losses. Merced’s losses in Paradise alone were US$64 million, while its capital was US$23 million and its reinsurance lines of credit were US$17 million.

Some 7,436 policyholders were left without coverage as a result of the bankruptcy that was declared just days after the fire. The California Insurance Guarantee Association (CIGA) stepped in to help, saying it would pay individual claims up to $500,000.

A year later, the rate of policy non-renewals had shot up to 31 per cent in California, and as high as 61 per cent in the highest risk areas. To protect policyholders, the state government imposed a one-year moratorium on the cancellation or non-renewal of homeowner insurance policies.

The state government ordered the California FAIR Plan Association, an insurer of last resort founded in 1968, to offer insurance to homeowners, but the association declined the request. It is still very difficult to get fire insurance in the state.

Two main causes of failure worked in tandem: The natural disaster and poor underwriting. The study’s authors urge insurers to better assess their resilience to major losses in light of increasing climate risks.