For Korean Insurers
The International Accounting Standards Board (IASB), which is responsible for implementing the IFRS 17 (previously IFRS 4 Phase II; a standard by which insurance liabilities are reported in terms of market value instead of book value), has determined that the new international accounting standard principles will become effective on Jan 1, 2021-as Korea adopts IFRS, this represents an important date for domestic insurance players. Meanwhile, at a recent meeting of its board of directors (BOD), the IASB eased the principle related to the appraisal of contractual service margin (CSM), a type of future profits (ie, the present value of the profit expected to be generated in the future via an insurance contract). In detail, insurers will be allowed to calculate CSM based upon a fair value approach (ie, CSM is to be booked as part of capital by offsetting it with future losses).
In line with the IASB’s decision to ease the CSM appraisal-related principle, the required level of CSM for insurers is to decrease. As such, the burden on insurance players represented by greater insurance liabilities (upon the introduction of IFRS17) is to lessen. On Oct 16, the head of Korea’s Financial Services Commission (FSC) said that the overall amount of additional capital increase for insurers stemming by IFRA 17 should be less than W42tn (the figure initially estimated by the Korea Insurance Research Institute (KIRI)).
Meanwhile, the FSC is currently preparing for the implementation of new capital adequacy regulations. Under these new regulations, the range of available capital (AC) will be wider than that required under IFRS 17. We point out that the major component of the difference in AC between IFRS 17 and new capital adequacy regulations is CSM. In detail, the new supervisory accounting principles (SAP) in connection with the general accounting principle changes will benchmark the EU’s Solvency II directive. Under this directive, CSM is included in AC; as such, the FSC will likely include CSM in its AC calculations for insurers.
The current consensus holds that while IFRS 17 will increase domestic insurers’ capital threshold burdens, the new RBC regulations will not do so. Although the recent easing in the CSM appraisal-related principle is a clear positive, capital increase-related worries remain in play towards insurers—ie, fears that insurers will need to raise capital by making third-party rights offerings, issuing subordinated bonds, and/or issuing perpetual bonds. However, we believe that domestic insurers will be well positioned to assess and deal with such needs upon: 1) the expected release of the official IFRS 17 standards in 1H17; and 2) individual players having a chance to perform internal simulations based on these to-be-released official standards.
While the easing in the CSM appraisal-related principle is positive news, we view expectations that recent hikes in long-term interest rates will lessen the burden of greater insurance liabilities as being a bigger positive factor for domestic insurers.
By Stephanie Han, Analyst at Nonghyup Investment & Securities