Suomi Mutual

Bigger bonuses

In a mutual company, ownership is based on a customer relationship. No owner-policyholder has invested equity-related assets in the company. This kind of ownership is not realised in the form of dividends or any other return on equity. 

In normal operational circumstances, ownership in a mutual company means primarily the right to participate in the company’s administration. At Suomi Mutual, this means the right to vote in the Policyholders’ Representative Assembly, which acts as the General Meeting, every three years. Ownership ceases, without any compensation based on it, when the insurance contract expires.

Excess capital refunded to policyholders

Although policyholders in a mutual company have not invested any equity-related assets in the company, the company’s net assets belong to them.

Suomi Mutual ceased to underwrite new insurances at the beginning of 2005. The company is in a so-called run-off state. Its task is to manage its insurance and investment portfolios for the benefit of its customers. As insurances expire, the company’s need for solvency capital decreases. The consequently released solvency capital is refunded to the company’s policyholders. The refunds are not based on the policyholders’ status as owners, but on their status as insurance customers.

During 2005, Suomi Mutual announced the principles on which solvency capital would be refunded to policyholders. At first, the refunds were directed fully into so-called special additional benefits. Current policyholders whose insurances at Suomi Mutual were already effective on July 1, 1997 were eligible. This portion of the insurance portfolio had previously been given a conditional promise of new special additional benefits. In accordance with previously announced principles, the amount of excess refunds was confirmed at EUR 840 million - the amount previously conditionally declared - plus interest, to be credited as of January 1, 2005 on the portion yet to be refunded. At the end of 2007 about EUR 200 million of this conditionally promised amount remain.

The company’s solvency capital is clearly higher than the above-mentioned remainder of the conditionally promised amount. According to the principles previously announced by the Suomi Mutual Board of Directors, any solvency capital exceeding that amount would be refunded to the entire insurance portfolio. During 2006 the Board decided to start these refunds by significantly increasing customer bonuses granted to insurance policies, and the same procedure was continued in 2007. So some of the customer bonuses granted to insurance savings will come from refunding the solvency capital. Refunds to the entire insurance portfolio will be made to the extent allowed for by the company’s solvency position and the aforementioned special additional benefits. In 2008, insurance savings will attract a customer bonus of at least 2.5 per cent. Last year, Suomi Mutual refunded a total of EUR 411 million to its policyholders as additional benefits. The amount includes both the 2008 special additional benefits and customer bonuses.

As a special additional benefit, old policies, i.e. those current polices that were already effective at Suomi Mutual on July 1, 1997, will receive an 11 per cent bonus. It will be granted as an increase in insurance savings and the related security. The customer bonus granted to all insurance savings was increased to 2.5–3.2 per cent depending on the line of insurance and the technical interest rate applied. In the best case, old insurance policies will receive an annual return on their savings of over 20 per cent (technical interest rate of 4.5 per cent, a previously declared special benefit of 2.7 per cent, a special additional benefit of 11 per cent and a customer bonus of 2.5 per cent). The annual return on other insurance savings is 6.5–7.0 per cent, depending on the level of technical interest. In 2005 a decision was taken about the special additional benefits in risk insurances. Their special additional benefit is an insurance premium reduction, which rose from 20 per cent to 30 per cent starting in 2007.

The solvency capital refunds were extended to the entire insurance portfolio so that as many policies as possible would have time to benefit from them. As a significant proportion of the currently very big additional benefits is based on the reduced need for solvency and on good solvency as such, it is clear that these benefits may change significantly from year to year. Decisions on special additional benefits or customer bonuses will never be allowed to jeopardise the company’s risk position. The aim of the chosen operating approach is that the company retains adequate capacity to take investment risks. In this way, the expected return of long-term insurances will also remain good.

Effect of future solvency requirements on customer bonuses

The Solvency II project that is now under way in the European Union will result in the preparation of a new solvency Directive (cf. banks’ Basel II). The present solvency framework will change considerably, and in the future the risks taken in a company’s operations will have a direct bearing on the solvency requirement. The new Insurance Companies Act, which will come into force in Finland in 2008 as part of this development, includes a chapter on proactive monitoring which says that a company must make calculations about the solvency capital required by the risks it takes. This model is based to a great extent on the present impression of the forthcoming Solvency II Directive.

For Suomi Mutual, however, the change will not be very big, because the company has previously set its own internal solvency targets based on the risks it takes. The most significant change for the company will be that in the calculation of the solvency the technical provisions will be differentiated from the policyholders’ insurance savings. In the future the technical provisions will be calculated as the present value of future cash flows and the market interest rate prevailing at the time will be used instead of a fixed interest rate. In practice this will mean that the amount of technical provisions in the solvency calculations will fluctuate in line with fluctuations in the interest rate. However, insurance savings will still increase by the technical interest rate stated in the contract and also by the additional benefits given.

As a result of the above, the prevailing interest rate level will no longer have as direct an impact on the level of customer bonuses as it may have done so far. In the future a customer bonus will be affected more by how well the company has controlled the interest rate risk and how successful it has been in its risk-taking. In any case, overall, the company has already been operating to a great extent in line with the future framework, and changes to the company’s operations will, to a greater extent, be fine-tuning. The risk management section published by the company shows in greater detail the change to this control system and its effect on the solvency capital required of the company.

Long-term liabilities

Life and pension insurance contracts are often very long-term. Hence Suomi Mutual’s liabilities are also long-term. The annual report for 2006 used various diagrams to illustrate an assessment of how the company’s insurance portfolio would develop at the time. The company will be making similar reviews annually when planning its own operations over the long term. Earlier predictions have been made more exact and brought into line with perceived developments. However, they have no significant effect on the results presented a year ago.

The conclusions drawn from the analyses in question are still that

• the company’s balance sheet and through it the technical provisions are decreasing slowly,
• the number of the insured is diminishing faster in comparison, but in 20 years, will still be almost 100,000 (currently over 330,000),
• the amount of premiums written will fall quite quickly and halve their present value within five years.

Forecasts of the development of technical provisions and balance sheet are used in planning the company’s investment operations. A run-off company must be able to integrate the duration of the investment periods with the expiry of company liabilities. Figures 1 and 2 on page 10.

Based on forecasts, it is easy to assess that the company’s run-off state will not generate a need to redirect investments in the near future. The company can retain, for example, its investment allocation the way it sees fit at any given time based on its risk position and the market outlook.

Solvency capital refunds to customers convert even good results into losses

As explained above, Suomi Mutual refunds its entire solvency capital to its customers in the form of various additional benefits, to the extent that this capital is no longer needed in the company’s operations. The aim is an equitable distribution among insurance policies of different durations. A significant amount of the company’s solvency capital is capital and reserves, which has been acquired through profits from previous years.

Providing an additional benefit will weaken the result recorded in the profit and loss account, as additional benefits will increase technical provisions beyond what they would have been, had the benefits not been granted. For the portion of the additional benefit financed through capital and reserves, there will be no positive counter item in the profit and loss account. In practice this means that the profit and loss account will generally show a loss even when the overall result is actually good.

Furthermore, as the company will in the future be screening the development of its solvency more from the market-based perspective than the bookkeeping perspective, controlling the interest rate risk in the technical provisions may cause greater fluctuations in the bookkeeping result, because the technical provisions will not yet be valued on market terms in the books.