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Islamic insurers could lead 'merger mania' in UAE, Saudi insurance sectors

Enhanced capital requirements for insurers in the United Arab Emirates and Saudi Arabia could accelerate consolidation among Islamic insurers or force some to leave the market, according to S&P Global Ratings.

It comes after several years of declining profits and accumulated losses have "eroded capital buffers and resulted in solvency issues and temporary, or even permanent, license suspensions for a number of insurers, particularly in Saudi Arabia — the largest Islamic insurance market in the Gulf Cooperation Council," Ratings said in a July 14 report.

While the Islamic insurance sector is poised for consolidation, merger activity could also sweep through the sector at large, analysts said, citing lagging profitability, consolidation of ownership by common shareholders and regulatory changes as factors that could drive M&A.

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Insurance penetration rates in the GCC as a percentage of GDP stand at 2.04% versus 6.13% globally, according to Swiss Re's latest figures. The GCC Islamic insurance sector, meanwhile, generated a net profit of about $281 million in 2019, compared with $383 million in 2017, and $674 million in 2016, according to the report, while gross written premiums have been stagnant.

However, the period of poor results for the sector may be over, with Islamic insurers in the region reporting first-quarter gross written premiums and contributions rising about 9.5% to $3.5 billion compared with the same period in 2018, and a 13.4% rise in net profit to about $77 million.

Islamic premium income in Saudi Arabia increased 8.8% in the first quarter of 2019, mainly due to a rise in medical business following the introduction of mandatory cover for dependents of Saudi nationals.

READ: Saudi Arabia's new capital rules could hit 27 insurers, drive M&A

New regulations

Takaful companies in other GCC markets expanded at an even faster rate of about 14%, supported by growth across several lines of business, according to the report.

In takaful insurance, which is based on Islamic religious law, all parties or policyholders agree to guarantee each other and make contributions to a pool or mutual fund instead of paying premiums.

Around 40% of takaful players in the UAE do not comply with new solvency requirements adopted in January 2018, said Emir Mujkic, an insurance sector analyst with S&P Global Ratings in Dubai and author of the July 14 report. The requirements stem from an insurance law published in early 2015, which gave local insurers two to three years to adapt, he said.

Insurers that do not comply with the regulatory capital requirements have been required to submit an action plan to the UAE Insurance Authority, highlighting how and by when capital will be restored, he said. Ultimately insurers will either need to increase their capital or consolidate.

READ: Competition heats up in UAE insurance aggregation market

Age-old discussion

While conversations about consolidation taking place in the fragmented takaful sector in the GCC and the UAE have taken place for years, deals have been few and far between.

"The financials make sense for consolidation, and that has been the case for years. The question is why do we not see consolidation to the level that we should," said Vasilis Katsipis, general manager, market development, MENA, south and central Asia at A.M. Best, a rating agency focused on the insurance industry, in a panel discussion at a takaful industry conference in Dubai in April.

One reason is that insurance companies are often owned by individuals or families with broad businesses interests. "Typically [that] insurance company is only a small part of what they do, so it's not their first priority to consolidate," said Katsipis.

Takaful family, a form of life insurance, also has low penetration in the GCC, meaning that insurers rely mainly on motor and health insurance books, which are typically less profitable.

"If one company makes losses on one book, and another company also makes losses, then a bigger company may just make bigger losses," said Mujkic.

Ripple effect

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Still, regulators are eager for more consolidation to take place in the broader insurance sector to have fewer, but stronger, companies.

The Saudi Arabian Monetary Authority is assessing plans to increase minimum capital requirements for primary insurers to 500 million Saudi riyals, up from the current 100 million riyals. The move to hike capital requirements is yet to be confirmed, but if enacted would "require almost 90% of insurers in the kingdom to raise new capital, consolidate through mergers and acquisitions, or exit the market entirely," said the Ratings report.

At least two mergers in the kingdom are under consideration, with Walaa Cooperative Insurance Co. announcing in June that it had signed a nonbinding memorandum of understanding with MetLife AIG ANB Cooperative Insurance Co. to evaluate a potential merger. Solidarity Saudi Takaful Company and Aljazira Takaful Taawuni Co. announced in the same month that they are also considering a merger.

'Merger mania'

There is potential for a wave of consolidation in the broader UAE insurance sector similar to that which has taken place in banking, said Elena Ponceca, a senior analyst at Al Ramz Capital, an asset management and brokerage firm in Abu Dhabi.

Key drivers would likely be the combination of difference factors: organic such as lagging profits and desire for economy of scale; new regulations; and the consolidation of companies that have common ownership, she said.

"I expect that common shareholder grouping would continue to play a key role in any consolidation — much like what we have seen in the banking space," said Ponceca in emailed comments.

"One difference could be that there might be more foreign players wanting to pick up UAE insurance assets as part of their plan to penetrate the region — this we have not seen in the banking merger mania."

A number of UAE bank M&As have been explored or completed since First Gulf Bank and National Bank of Abu Dhabi merged in 2017 to form First Abu Dhabi Bank PJSC.