Because they underwrite policies differently, perpetual insurers will be analyzed differently than traditional insurers, according A.M Best. The firm’s methodology change, detailed in its “Analyzing Perpetual Insurers” criteria report is not expected to affect ratings and is reflected in the most recent version of “Best’s Credit Rating Methodology (BCRM).”

Perpetual insurers use a policy deposit approach to underwriting, in which the insured makes a single fully-refundable payment for coverage that has no expiration date. The deposit is a multiple of an average one-year term policy; the proceeds of which are then invested in securities to produce a revenue source to cover losses and expenses. The insured has the opportunity to cancel coverage at any time and would then receive a refund, without interest, for the entire deposit.

For perpetual insurers, A.M. Best’s Capital Adequacy Ratio (BCAR) model would not capture the premium risk represented by the deposits due to the lack of reported net written premium. Therefore the company places additional emphasis on other financial measures in the rating evaluation of perpetual insurers.

In a press release, the company explains that due to the unique characteristics and financial demands of perpetual insurance companies, “the underwriting exposure represented by the deposits is converted to a term equivalent premium,” the company says, “which then is risk charged by the respective capital factors in BCAR to generate an appropriate premium risk charge.”

“Without traditional written or earned premium, many of the standard underwriting and operating performance metrics used to evaluate a traditional term policy insurer are not applicable to the analysis of a perpetual insurer,” the company said. “Thus, the loss and loss-adjustment expense ratio, expense ratio, combined ratio and investment income ratio, all of which are calculated by using written or earned premium as the denominator, are not meaningful. More meaningful operating measures are total return on invested assets and total return on equity. These two measures are more indicative of the overall profitability of a perpetual insurer.” 

Loss data also is reviewed to evaluate profitability, especially when coupled with the term equivalent premium. Capital gains and losses, both before and after taxes, are evaluated since the perpetual business model depends on investment returns.

Examination of investment reports also helps reveal potential concerns, such as sector concentrations, large single-issue investments and the degree of volatility in returns. Expense data also is evaluated to determine efficiency within the operation.

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