S&P Global Ratings believes that plans to increase minimum capital requirements will lead to consolidation in the Gulf Cooperation Council (GCC) Islamic insurance industry (takaful and Islamic cooperative tawuni), where weak profitability has posed problems.
Thanks to strong premium growth in Saudi Arabia and other GCC markets, Islamic insurers in the region recorded a 9.5% increase in gross written premiums and contributions in first-quarter 2019 following years of flat growth and declining profitability. This was joined with a 13.4% increase in profits, mainly from better investment returns.
However, despite these material improvements, we note that more than one-third of insurers in the sector continue to report underwriting losses. Accumulated losses have in recent years 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 GCC. This also has led to a number of negative rating actions in recent years.
To strengthen the sector, the Saudi Arabian regulator (SAMA) is assessing plans to increase minimum capital requirements for primary insurers to Saudi riyal (SAR) 500 million, up from the current SAR100 million. Although details regarding the exact timing and amount have yet to be confirmed, an increase in minimum capital requirements of this magnitude would require almost 90% of insurers in the kingdom to raise new capital, consolidate through mergers and acquisitions, or exit the market entirely.
In other markets such as the United Arab Emirates (UAE), where about 40% of takaful players do not comply with new solvency requirements adopted in January 2018, and in Kuwait, where a new law with higher capital requirements could be implemented in 2020, a significant number of companies will also need to increase their capital or consolidate.
Weak Profitability Remains A Key Issue
Net income for Islamic insurers in the Gulf has significantly declined in recent years, according to our data. In 2018, the sector generated a net profit of about $281 million, compared with $383 million in 2017, and $674 million in 2016.
The weak results in the Saudi Arabian market, which contributes about 85% of total gross written premiums of all Islamic insurers in the GCC, have been the main source of earnings volatility in the sector in recent years. Slow economic activity and higher competition have also spurred the decline in profitability.
The market received a boost in first-quarter 2019, compared with the same quarter in 2018, with gross written premiums and contributions rising about 9.5% to $3.5 billion, and a 13.4% rise in net profit to about $77 million. Premium income in Saudi Arabia increased by 8.8%, mainly due to a rise in medical business following the introduction of mandatory cover for dependents of Saudi nationals, while takaful companies in other GCC markets expanded at an even faster rate of about 14%, supported by growth across several lines of business. At the same time profitability improved largely thanks to better investment results. This was supported by strong recoveries in equity markets in first-quarter 2019, following a significant decline in fourth-quarter 2018.
We expect net income will improve in 2019, compared with 2018, but moderate over the remaining quarters of the year. However, the improvement is likely to be spurred by better investment returns, not market conditions, which we expect will remain highly competitive.
Regulators Want Fewer But Stronger Companies
Some GCC insurers have been unable to cope with increased competition and stricter laws and regulations. In particular, a legislative change in Kuwait in early 2019, requiring insurers to pay motor claims within a few weeks rather than several months, exposed significant liquidity deficits among a number of smaller takaful players. This led to the temporary suspensions of at least six companies. We believe that the planned introduction of a new insurance law with higher capital requirements in 2020 could increase the pressure on the large number of small and unprofitable takaful players in Kuwait that will need to raise new capital to meet these requirements.
In Saudi Arabia, accumulated losses that have eroded the capital of a number of insurers over the past few years have also led to temporary or even permanent suspensions. As a result, three of the 34 insurers, representing almost 10% of companies in the market, have stopped their operations.
To create stronger companies, the Saudi regulator has been studying proposals to increase minimum capital requirements to SAR500 million from the current SAR100 million. We believe only a small number of the 31 active primary insurers in the kingdom currently meet these requirements, which means almost 90% would need to raise new capital. Although details of the exact timing and amount have yet to be confirmed, some insurers have already taken steps to increase their capital levels by raising new funds, retaining a higher proportion of their profits, or assessing merger options.
We also estimate that about 40% of takaful players in the UAE do not meet new solvency regulations adopted in early 2018 and that these companies will need to take action to restore their capital levels in the near future.
Although consolidation in the Islamic, as well as conventional, insurance industry in the Gulf has been overdue, it has historically been prevented by public stock market valuations that do not reflect economic fundamentals, which has created a significant valuation gap. Consolidation has also been held back by shareholders and management teams, who are often reluctant to relinquish control because their positions and status could be diminished within larger entities. However, we believe that tougher regulatory requirements will eventually kick-start consolidation in the sector, particularly since not every insurer needing to increase its capital will be able to do so.
Overall, while a number of small and medium-sized entities operate successfully, we believe the consolidation of the GCC insurance market would help improve the operational scale and capital base of companies. This should allow them to retain more risk, while also easing highly competitive market conditions.
- Saudi Insurance Market Sees Another Profit Decline In 2018, April 9, 2019
- Some GCC Insurers Will Increasingly Feel The Heat In 2019, Feb. 25, 2019
This report does not constitute a rating action.
|Primary Credit Analyst:||Emir Mujkic, Dubai (971) 4-372-7179;|
|Research Contributor:||Ronak Chaplot, CRISIL Global Analytical Center, an S&P affiliate, Mumbai|
|Additional Contact:||Insurance Ratings Europe;|
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