On behalf of the Board of Directors, it is my privilege and pleasure to present the Annual Report of Labuan Reinsurance (L) Ltd for the year ended December 31st, 2013.
The global economy expanded modestly by 3.0% in 2013, from 3.2% in 2012,amidst an uneven growth environment across economies in 2013. The change in market expectations for the curtailment in monetary accommodation in the US towards the second half of the year led to large capital flow reversals from the emerging economies. In line with the weaker external environment, the Malaysian economy expanded only by 4.7% in 2013 compared to 5.6% in 2012.
In the Malaysian market, consolidation amongst the direct companies and foreign equity participation had resulted in fewer but better capitalised insurers. Higher retention by these insurers and co-insurance arrangements among the direct companies translated to lesser need for reinsurance. The effect of tighter competition in the domestic reinsurance market surfaced during the year with the rising number of new start-ups which commenced their operations at the Labuan International Business and Financial Centre in the past few years. During the period under review, overall claims in the domestic market were relatively benign, except for the damages to the furnace and electrolysis pots suffered by Press Metal Sarawak Sdn Bhd due to a power outage.
Meanwhile, the global reinsurance market, which was dominated by highly capitalised players, continued to be soft throughout 2013. Despite some notable weather related claims such as the extensive flooding in Europe in January and the Super Typhoon Haiyan in the Philippines in November, there were no market turning events severe enough to reverse the soft market conditions.
I am glad to report that our resilience in weathering the various operational challenges within the economic landscape had enabled the Group to post a profit after tax of USD6.8 million during the financial year ended December 31st, 2013. This represents a remarkable increase of 300% over the USD1.7 million profit achieved in the previous financial period.
The satisfactory result was however affected by the adverse movement in reserves which saw the Available-For-Sale (AFS) and foreign currency translation reserves dropped by USD8.6 million in 2013 in comparison to an increase of USD2.0 million in 2012. This hence led to the decrease in the Group’s shareholders’ funds from USD140.9 million in 2012 to USD139.1 million in 2013.
In December 2013, A.M. Best reaffirmed our financial strength rating of A- (Excellent) with stable outlook, indicating the Group’s healthy capital adequacy level. Together with our continuous rationalisation of the underwriting strategy to improve the management of underwriting risk, this will place the Group on firmer footing to face future challenges.
For the year ended December 31st, 2013, the Group registered a gross premium income of USD224.9 million, representing a decrease of 10.5% from USD251.2 million achieved in 2012. Out of the total premium, 24.1% was drawn from the domestic market in comparison to 19.0% in 2012, whilst the remaining 75.9% was derived from overseas market in comparison to 81.0% in 2012.
The domestic sector registered an increase in premium income of 13.3% for the year. The overseas sector, however, recorded a decrease of 16.1% due to the reduction in the Group's capacity at Lloyd's; from USD117 million in 2012 to USD96 million in 2013.
During the year under review, the Group’s participation in three syndicates at Lloyd’s was either reduced or completely ceased as they no longer required third-party capital. The abundance of capital in the Lloyd’s market has made investing in the syndicates more challenging as the syndicates currently require reciprocal business from their third-party capital providers. Hence, the Management is constantly weighing on new opportunities at Lloyd's that will deliver a more sustainable income to the Group.
The Company’s non-marine, marine, motor and energy portfolios continued to be protected under their respective excess of loss programmes with structures and limits similar to those implemented in the prior year.
Total retrocession cost for the year was USD54.7 million in comparison to USD45.0 million registered in 2012. The increase was due to the USD15.9 million of outward premium payable to the reinsurer for the quota share retrocession of the Company’s non-marine business, against USD3.2 million recorded in 2012. The arrangement, for a twelve-month period from April 1st, 2012 to March 31st, 2013, was made in the aftermath of the Thailand Flood losses.
Net claims incurred for the Group improved to USD114.6 million from USD137.7 million registered in 2012. Out of this total, USD16.3 million (2012: USD30.5 million) was from the domestic portfolio with the balance of USD98.2 million (2012: USD107.2 million) from overseas.
The domestic portfolio performed remarkably well with a claims ratio of 36.3% compared with 62.3% in 2012. However, the claims ratio of 66.5% for the overseas sector (including Lloyd’s) was marginally higher than the 66.3% registered in 2012. Major losses which affected the overseas portfolio during the year included Super Typhoon Haiyan, Typhoon Fitow and the SK Hynix plant explosion in China. In addition, a number of medium-sized losses, all within the Company's retention, also contributed towards the overall incurred losses.
After taking into account net commissions of USD60.6 million (2012: USD63.4 million) and management expenses of USD15.0 million (2012: USD19.7 million), the Group reported an underwriting profit of USD21,492 during the financial year against an underwriting loss of USD10.5 million in 2012. Our Combined Ratio hence showed a satisfactory improvement from 105.0% in 2012 to 100.0% in 2013.
To ensure Labuan Re attains a steady investment return, the Group maintains a capital preservation policy as the mainstay of its investment philosophy during the year. In compliance to this, asset allocation was weighed in favour of cash at 60.8% compared to 46.0% in 2012. The higher weightage in cash was mainly due to the reduction in the bonds’ holdings as interest rates are expected to rise with the tapering off of the bonds buying programme by the US Federal Reserve. An increase in interest rate will translate to a reduction in the bonds’ valuation.
Whilst the equity in the developed markets had performed strongly in 2013 due to the improving US economy, the emerging markets had performed poorly caused by the capital flow reversals. Nevertheless, the FTSE Kuala Lumpur Composite Index gained 10.7% for the year helped by investors’ confidence in the positive economic outlook for the Malaysian economy.
Based on the above condition, the Group’s investment income rose by 7.8%, from USD10.4 million in 2012 to USD11.2 million in 2013. However, due to the reduction in the valuation of its bonds portfolio, the Group’s AFS reserves declined by USD6.9 million.
BUSINESS RATIONALISATION AND GOVERNANCE
To help us remain relevant in each market segment, the Group continues to conduct its business rationalisation exercise by evaluating the feasibility of our planned investments and the viability of our participation in each business sector. This is also to ensure that we are always focused in our strategic direction, retain a healthy cluster of portfolios and protect our business position on viable strongholds.
Investment in ACAL Holdings Pte LtdE
In line with the rationalisation exercise, the Company had during the year disposed off its entire shareholding in ACAL Holdings Pte Ltd (ACAL) to a third party for a nominal consideration. ACAL had provided the capital to support the underwriting of Lloyd’s Syndicate 1965. Its financial position was adversely affected by the Thailand Flood losses in 2011 which led to its run-off in November 2011. Nevertheless, the disposal of ACAL had no impact to the Group’s current year’s result as the investment had been fully impaired in prior years.
As the syndicate is in run-off, the sale of ACAL did not eliminate the Group’s obligation under the Deed of Undertaking entered into with Lloyd’s. The Group will continue to fund its proportionate share of losses incurred by Syndicate 1965 out of the profit from its participation in the other Lloyd’s syndicates. During the year, an additional USD2.0 million was provided for in the financial statements which, based on the current best estimate, would be sufficient to bring the matter to an eventual closure.
In addition to our own set of risk management framework and internal control regiments designed to mitigate the Group’s risk exposure, we are also committed to comply with the stringent regulatory requirements set by the Labuan Financial Services Authority to further enhance our corporate governance. This includes the issuances of the Guideline on Compliance Function for Labuan Licensed Entities, Guideline on General Reinsurance Arrangement and Sound Practices, and Guideline on Fit and Proper Person Requirements, during the year.
Looking ahead, the global economy is expected to improve in 2014, supported by a broader economic recovery in the advanced economies and sustained growth in the emerging economies. The Malaysian economy is envisaged to remain on a steady growth path in 2014, growing at a more moderate pace by 4.5%-5.5%. The key driver for growth will be the private investment which is expected to register a robust growth for the fifth consecutive year, driven by the ongoing implementation of multi-year projects and the improvement in external demand.
However, the global reinsurance market in 2014 is expected to remain soft and competitive given the abundance of capital. That being said, the underwriting performance may well be dictated ultimately by the severity of the North Atlantic hurricane season and the monsoon season in South East Asia later in the year.
Closer to home, market players are faced with both challenges and opportunities over a number of imminent changes which will take place in the industry. The expected abolition of the fire and motor tariffs in 2016 will enable the premium rates to be determined by market forces. This will benefit the consumers albeit with increased competition among the insurers. In addition, Malaysian Reinsurance Berhad, in partnership with a reputable international broker, is committed to developing the Malaysian Flood Model to improve risk management and accumulation control for the benefit of the industry. The proposed implementation of the Insurance Capital Adequacy Framework by the Labuan Financial Services Authority will see the industry’s capital management practice significantly enhanced to be at par with the best international practice and subsequently set the industry to the next level of growth.
In the effort to meet the challenges posed by a changing business landscape effectively, Labuan Re is currently equipping itself with the necessary technical know-how and tools. To this end, the Company has acquired a capital modelling software and a pricing tool, both of which will be implemented by the end of 2014. To complement this, the Company will also invest in its human capital to ensure that well-trained personnel with the requisite technical expertise are on hand to operate these tools and to provide the much needed support to the underwriting team.
The potential impact on the Malaysian Government’s implementation of the Goods and Services Tax (GST), which will be effective from April 1st, 2015 is also posing a tremendous challenge to the industry. To this end, the Management has initiated some measures, such as forming an internal task force and participating in a GST working committee with one of the shareholder
companies, to prepare for its readiness.
At the beginning of 2014, Johana Era Zainudin, who has served the Company since 2002, was appointed as the Chief Executive Officer. Johana brings with her a wealth of experience gained through managing the Company's investments and the Group's syndicates participation at Lloyd's.
In the forthcoming year, the Group will be incorporating various initiatives into its Fourth Strategic Plan for 2015 – 2019. I have full confidence that with Johana at the helm, the Group will be able to sustain and improve its profitability.
On behalf of the Board members, I would like to extend my gratitude to all the staff for their dedication and hard work.
I would also like to express my sincere appreciation to all shareholders, ceding companies, broking partners and the Office of the Director-General of the Labuan Financial Services Authority for their continuous support to the Group.
Lastly, I wish to record my appreciation to my fellow Directors for their continuous assistance, commitment, support and counsel during the year.
Labuan Reinsurance (L) Ltd