On behalf of the Board of Directors, it is my pleasure and privilege and to present the Annual Report of Labuan Reinsurance (L) Ltd for the year ended December 31st 2016.
The global economy in 2016 recorded a growth rate of 3.1% (2015: 3.2%), on the back of a challenging landscape, given the downcast global demand and low oil price. The international financial markets were also subjected to heightened uncertainties with significant reversals of capital flows from the emerging economies. This was driven by the unexpected political developments in the advanced economies, such as the UK and the US, and the macroeconomic policies adopted by these economies. In Asia, China’s economy expanded at a more gradual pace due to the ongoing reforms and the rebalancing towards a consumption-led growth model. Some of the Asian economies like Indonesia, the Philippines and Thailand recorded stronger growth, driven by the higher infrastructure investments and the implementation of monetary, fiscal and structural policy measures to support their growth. Global inflationary pressures remained low reflecting mainly the weak demand and low oil price.
The Malaysian economy grew at 4.2% (2015: 5.0%) due to the considerable external and domestic headwinds. Domestically, the economy continued to face challenges from the higher cost of living amid soft employment conditions. Concurrently, the business and consumer sentiments were affected by a confluence of global and domestic factors, including the heightened volatility in the financial markets and the significant underperformance of the Malaysian Ringgit.
In 2016, global natural catastrophes had brought about economic losses exceeding USD200 billion, more than 20% above the average losses since 2000. Of these total economic losses, only 26% were covered by insurance as most of the damages had occurred in areas with lower insurance penetration. The earthquake in the Kumamoto prefecture, Japan in the second quarter of 2016 was the costliest natural disaster during the year, with economic and insured losses of USD38 billion and USD5.5 billion respectively. In addition, Hurricane Matthew which occurred in the Caribbean and the US East Coast in the third quarter of 2016 was a devastating natural peril event, recording economic and insured losses of USD15 billion and USD5 billion respectively. Given that there was no big losses experienced during the year, the reinsurance premium rate continued to be soft.
The global reinsurance sector also continued to be weighed down by an oversupply of capacity as alternative capitals continue to seek for better returns from the insurance space amidst the low returns from traditional investments. According to the independent rating agency, A.M. Best, global reinsurance capacity had grown by 5% from a year ago to USD420 billion. Hence, this explains the continued downtrend of the reinsurance rates during the year under review.
Against this challenging background, the Group generated an operating revenue of USD162.2 million (2015: USD170.8 million) and a net profit of USD9.9 million (2015: USD14.3 million) during the financial year ended December 31st 2016. The 30.7% decrease in net profit was mainly due to the lower premium income as a result of the continuous de-risking exercise, regulatory and fiscal changes, as well as the soft premium rate and lower investment income.
On November 30th 2016, A.M. Best reaffirmed the Company’s financial strength rating of A- (Excellent) and long-term issuer credit rating of “a-“. The outlook of both ratings is stable. The rating affirmation acknowledges Labuan Re’s strong risk-adjusted capitalization, as measured by Best’s Capital Adequacy Ratio.
Last year, I mentioned about the regulatory factors of the China Risk Oriented Solvency System (C-ROSS) in China and the Otoritas Jasa Keuangan (OJK) ruling in Indonesia. These are examples of protectionism measures introduced by the countries to limit the involvement of foreign reinsurers in their domestic markets. These had negatively impacted the Group’s premium income in 2016. In the years to come, protectionism will continue to impede on the Group’s growth as more jurisdictions impose barriers to the foreign players.
The Group registered a gross premium of USD153.9 million in 2016, a decrease of 4.9% from the USD161.8 million recorded in the previous year. Overall, the Non-Lloyd’s portfolio had contributed to a lower premium due to the reduction of business from the Middle East market, and the delay in the premium booking from China attributed to the introduction of its new fiscal policy. The Lloyd’s business contributed around 47% of the Group’s premium, followed by the Non-Lloyd’s Overseas business at 28%, and the Non-Lloyd’s Domestic business at 25%.
Net earned premium was at USD119.9 million, a decrease of 16.1% from USD142.9 million in 2015. The key markets for the Non-Lloyd’s business (apart from Malaysia) included China, Turkey, Japan, Vietnam, Pakistan and Indonesia. In terms of lines of business, Fire contributed 72% of the class of business written, followed by Marine, Aviation and Transit at 12%; Miscellaneous at 7%; Engineering at 5% and Motor at 4%.
Net claims incurred for the Group in 2016 was at USD75.6 million (2015: USD81.3 million), lower by 7.0% as compared to a year earlier. Most losses were from the Overseas business, notably from the Tainan earthquake in early 2016 (USD2.6 million), the spill-over from the Tianjin explosion (USD1.0 million), fire damages to the construction works at the Al-Rayyan Mall, Qatar (USD0.8 million) and flood damages in Sri Lanka (USD0.7 million). Meanwhile, the domestic business was affected by the explosion at Inpex Offshore North West, Ehsan-1 well flow (USD2.2 million). The latter is owned by Petronas Carigali Sdn Bhd.
Gross retakaful contribution was at USD8.3 million in 2016, an increase of 31.7% from the USD6.3 million reported a year earlier. The Division recorded an underwriting surplus of USD2.4 million compared to a surplus of USD0.05 million in 2015. Among the key retakaful markets for the Company are Malaysia, Pakistan, Brunei and Kuwait. The market condition still remains soft due to the abundance of capacity and the lack of significant large losses in 2016. Most of the terms and conditions had remained largely unchanged and the overall results of the retakaful portfolio remained relatively stable.
The Company’s retrocession programmes continued to be arranged on an excess of loss basis to protect the non-marine, marine, motor and energy portfolios. Except for non-marine and motor, the marine and energy portfolios were restructured during the year to achieve a more cost-effective protection. The programmes continued to be led and supported by reputable securities, with 97.5% in the A-rated category.
During the year, the Group’s total capacity participation in the Lloyd’s syndicates was at USD68.1 million (2015: USD66.9 million). The increase was mainly contributed by the capacity pre-emptions from three syndicates. No new syndicate was added to the portfolio, as the Company had tightened its selection process for new syndicates, whilst maintaining its existing established syndicates amidst the challenging business environment.
The investment income of the Group was at USD8.3 million, which was 8.8% lower than a year ago of USD9.1 million. This was mainly caused by the lower interest income from the cash deposits, primarily due to the lower interest rates from the Malaysian Ringgit deposits following a 25 basis points interest rate cut by the Central Bank of Malaysia in July 2016.
The Group’s investment philosophy continued to be conservative, and its asset allocation at the end of 2016 was at 51.8% (2015: 51.6%) fixed income securities; 32.8% (2015: 31.1%) cash deposits; 12.8% (2015: 16.0%) equities and 2.6% (2015: 1.3%) other investments. The latter comprised of, amongst others, Real Estate Investment Trusts, Exchange Traded Funds and Wholesale Unit Trust Schemes.
There was a reduction of 21.7% in the equity allocation mainly due to the de-risking of the portfolio amidst the volatility particularly in the emerging markets.
Outlook for 2017
Merger and acquisition activities continue to gather pace within the insurance sector as companies look for new markets, economies of scale and better cost management in an effort to manage the soft cycle. The higher insured market losses in 2016 of USD54 billion (2015: USD36 billion) had eroded the earnings of the majority of the insurance industry players, but without affecting their capital. Until there is a meaningful capital reduction and reinsurance capacity shrinkage, the low point of the soft market cycle looks set to prevail in the short to medium-term. This development will not only be affecting the Group’s non-Lloyd’s business, but also the Lloyd’s, as most syndicates may unlikely be able to meet their target capacities due to the repositioning of their business portfolios. Nevertheless, the fairly robust economic expansion and insurance premium growth in the Asian markets, particularly in China, India and Indonesia, will hopefully be positive for the insurance industry.
On the investment front, uncertainties in the global socio-economic and geo-political arena remain inevitable. Amongst others, the impact from President Trump’s “US First” policies, depressed oil prices, “Brexit” and the territorial/cross-border tensions remain unknown.
Impact from Brexit
Following the referendum vote for the United Kingdom to leave the EU, Lloyd’s has been working together with its market members to prepare for changes that are likely to arise as a result of leaving the EU. Lloyd’s has noted that, although only around 11% of its market’s gross written premiums arise from the EU (excluding the UK), it is still making the necessary preparations to maintain its access to the insurance market in the EU.
Currently, the details of future trading with the EU in general and its impact on the Lloyd’s market is unknown, although these uncertainties, together with the related economic factors such as the exchange rates and investment values, may have an impact on the Lloyd’s results for several years. The Management is monitoring the Lloyd’s market’s preparations along with the general market conditions to determine if it is appropriate to make any changes to the Company’s participation strategy in the Lloyd’s syndicates.
Our Journey Continues: Driving Growth, Creating Value
Our Vision “To be the Chosen Reinsurer” is supported by our Mission “To enhance value to stakeholders through professionalism and innovation”. The combination of these strengths makes Labuan Re a partner of choice for our clients. Together, we believe we can close the gap between the rising claims costs and the competitive premium rates, by offering diversified range of products and value-added services.
Looking back for the past 12 years, Labuan Re has been profitable at an average of USD12.1 million per annum, excluding financial years of 2008 and 2011. The Group made a loss in 2008 due to the global economic and financial crises, whilst in 2011, the Group was affected by several unprecedented major catastrophe losses which touted to be the highest insured losses in history, stemming from the Tohoku Earthquake and Tsunami in Japan; and the Floods in Thailand, New Zealand and Australia. In general, the Group has proudly continued to persevere and sustain its profitability until today amidst the challenging market conditions.
Amidst the protracted challenging operating environment in 2016, Labuan Re will continue its journey forward with conviction and will look to the future with optimism. Our commitment to our stakeholders will drive us to adapt our conduct of business to meet their evolving needs. Against the many obstacles faced in the domestic and overseas markets, with the unwavering support from the Board of Directors and other stakeholders, the dedicated Management team will continue to strive for profitability and growth in the global market place, setting and focusing on the right strategies that place us in a strong position to create further value for our shareholders and business partners over the coming years.
My heartfelt gratitude to all Labuan Re staff for their dedication, passion and tireless contributions in helping to build Labuan Re into a stronger organisation that can endure through the challenging circumstances with sustainable performance.
To our shareholders, clients, broking partners and the Office of the Director-General of Labuan Financial Services Authority, thank you for your continued trust and support to us, especially in the face of a challenging year. I am also appreciative of the valuable guidance and relentless assistance extended by my fellow Directors throughout the year.
Labuan Reinsurance (L) Ltd