In collaboration with

Transcription

1 In collaboration with

2 7th Annual 16 & 17 April 2012, Dusit Thani Dubai, UAE Dear Insurance Industry Leader, It is with great pleasure that we present to you the 5th annual edition of the World Takaful Report, a ground-breaking original research project developed in collaboration with leading global professional services and advisory firm, Ernst & Young. With a principal focus on Industry Growth and Preparing for Regulatory Change, the World Takaful Report 2012 explores the key industry trends and the critical success factors guiding the global Islamic insurance industry to the next level of performance and growth. We would like to take this opportunity to express our sincere gratitude to Ernst & Young and their world renowned Islamic Financial Services Team for investing their considerable talent and resources in developing the World Takaful Report The Report is exclusively launched on-site at a special plenary session of the 7th Annual World Takaful Conference (WTC 2012) where more than 350 industry leaders from over 150 leading organizations gather to chart the future of the Takaful industry. Established as a critical reference resource for key industry players, thought leaders and policy makers in the international Shari ah-compliant insurance industry, we hope that the analysis in this year s Report will provide practical, constructive and valuable insights which will be useful in your own strategic planning activities and will assist your organization in its quest for success as the global Takaful industry enters the next phase of growth. To find out more on how your organization can play a part in this important research initiative in the future, please sophie@megaevents.net Yours sincerely, David McLean Chief Executive The World Takaful Conference A MEGA Brand MEGA Brands: Shaping the Future of the Global Islamic Finance Industry Since 1993 P.O. Box 72045, Dubai, UAE t f MEGA Brands. MEGA Clients. Market Leaders. THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

3 The World Takaful Report 2012 Industry growth and preparing for regulatory change April 2012

4 Disclaimer The contents of the World Takaful Report 2012 are based on a combination of quantitative data and qualitative comments and hence provide a subjective assessment of the current Takaful market. All quantitative comments are based on published information wherever possible. Where published reliable data was not available, qualitative comments were made which may or may not reflect the true state of affairs. Information has been assimilated from secondary sources, including published country, industry and institutional information, and primary sources, in the form of interviews with industry executives. We are not expressing any assurance on the accuracy or completeness of the information obtained. Although this report has been documented based on our understanding of Islamic finance and insurance activities to include only such activities that are deemed Shari a compliant, no Shari a opinion whatsoever has been taken on this report. Hence, the contents of this report, in terms of the activities to be carried out, might not necessarily be consistent with Shari a in all cases, and the opinion of a Shari a scholar(s) should be taken before any further steps are made to implement suggestions made in the report. Whilst every care has been taken in the preparation of this report, no responsibility is taken by Ernst & Young as to the accuracy or completeness of the data used or consequent conclusions based on that data, due to the respective uncertainties associated with any assumptions that have been made. This report is documented for the World Takaful Conference. No part of this document may be republished, distributed, retransmitted, cited or quoted to anyone without prior written permission from Ernst & Young. 2 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

5 Contents Introduction Industry Growth Executive brief Introduction to Takaful Financial Performance Business Challenges Regulations for Growth Appendices 3

6 Executive brief Dear Takaful Executive On behalf of Ernst & Young, we take pleasure in introducing to you the 5 th annual edition of Ernst & Young s World Takaful Report (WTR 2012). It is of great pride to us that the annual report has claimed its place as the leading reference tool for Takaful decision makers and industry experts, as well as the broader Islamic finance industry. We are gratefull for the response and patronage receiveded from youo andother industry leaders who have provided their time and thoughts for finalization of this year s much anticipated report. The Takaful industry continued to show double digit growth in 2011 albeit at a relatively slower rate of 19% as compared to previous years. Amongst key markets, Malaysia and UAE again achieved growth rates of over 24%, whilst Saudi Arabia saw its gross contributions increase by US$0.5b. The challenge was once again, maintaining growth with profitability in the current economic climate. There were positive developments in the GCC with more operators showing profitability than previous years. The Saudi Cooperatives continued their growth performance yet still struggled in generating shareholder returns. Overall, return on equity for the Takaful industry was lower than conventional counterparts, both in the GCC as well as in Malaysia. However, a significant contributing factor to this was the lower investment returns for the industry relative to returns yielded by conventional insurers. The industry has now obtained significant market share versus conventional insurance in most GCC countries as well as South East Asian markets. There are a number of drivers behind this growth but one that is becoming increasingly important is regulatory support through appropriate amendments in legislature to provide a level playing field with conventional insurance companies. With operational efficiency still a key focus, we take a look at some of the regulatory changes that will impact and how some Takaful Operators may be forced to change their operating model and how forward planning is critical to save on considerable project and change management costs. The report also highlights the strong need for introducing greater standardization in regulatory frameworks across jurisdictions. Standardization will enhance clarity around Takaful, its business models and its unique selling proposition, hence allowing the industry to strive towards its true growth potential. We hope that you will find this report informative and useful and it provides insight to align your strategic agenda. Ashar M. Nazim Senior Director & Global Head of Islamic Finance Ernst and Young Justin Balcome Senior Director & MENA Insurance Leader Ernst and Young 4 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

7 Introduction to Takaful Takaful is the Shari a compliant alternative to conventional insurance The company accepts premiums from the insured at a level which it anticipates will cover claims and result in a profit. This process of anticipation is akin to Maysir (speculation). Conventional Insurance (non-mutual) The insured pays premiums to the company in exchange for indemnity against risks that may not occur. This process of ambiguity is akin to Gharar (uncertainty). The company engages in investments that may derive their income from interest and/or prohibited industries. This process is akin to Riba (usury) and/or relates to Haram (prohibited) activities. Takaful Takaful is based on the concept of social solidarity, cooperation and mutual indemnification. It is a pact amongst a group that agrees to donate contributions to a fund that is used to jointly indemnify covered losses incurred by the members. While the concept of Takaful revolves around mutuality and is founded on non-commercial basis, the operations and the fund are commonly managed by a Takaful operator on commercial basis. Mutual Guarantee - The basic objective of Takaful is to pay a defined loss from a defined fund. The loss is covered by a fund created by the donations of policyholders. Liability is spread amongst the policyholders and all losses divided between them. In effect, the policyholders are both the insurer and the insured. Ownership of the Fund - Donating their contributions to the Takaful fund, policyholders are owners of the fund and entitled to its profits (this varies slightly between the adopted models which are described later). Five Key Elements Elimination of Uncertainty - Donations, causing transfer of ownership to the fund, are voluntary to mutually help in the case of a policyholder s loss without any pre-determined monetary benefit. Management of the Takaful Fund - Management is by the operator who, depending on the adopted model, utilises either (or a combination) of two Shari'a compliant contracts, namely Mudaraba or Wakala. Investment Conditions - All investments must be Shari a compliant, which prohibits investment in Haram industries and requires the use of instruments that are free of Riba. Source: Ernst and Young research and analysis 5

8 Introduction to Takaful Takaful uses a system of voluntary donations and mutual assistance to share risk, collectively, amongst a group of members Takaful Cooperative insurance Mutual insurance Proprietary / commercial insurance Contracts utilised Donation and mutual undertaking based on nonremunerative / noncommutative contract Not an exchange / commutative contract Mutual contract Mutual contract considered to be an exchange contract on principles of mutuality Remunerative / commutative exchange contract Company s responsibility Manage the participants fund Pay claims from underwriting fund Provide interest free loan to underwriting fund in case of deficit Pay claims with underwriting fund Pay for deficits if any Pay claims with underwriting fund Pay claims Participants responsibility Pay contributions Pay contributions (and pay for deficits in some models) Pay premiums (and pay for deficits in some models) Pay premiums Capital utilised for underwriting business Participants funds and in case of shortfall, temporary access to shareholders equity on a qard al hassan basis Participating capital and accumulated surplus Participating capital, accumulated surplus and guarantee capital (if applicable) Shareholders equity Investment considerations Shari a compliance and prudential No restrictions except prudential No restrictions except prudential No restrictions except prudential Source: Ernst and Young research and analysis 6 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

9 Contents Introduction Industry Growth Financial Performance Business Challenges Global Takaful contributions grew by 19% in 2010, to US$8.3b Global Takaful contributions are expected to reach US$12b by 2012 Saudi Arabia remained the largest market in GCC Regulations for Growth Appendices 7

10 Summary of key Takaful events Significant events in the Takaful industry during March 2011 March 2012 GCC & MENA Bahrain SA & SEA Pakistan SA & SEA Malaysia SA & SEA Malaysia AAOIFI ruling on underwriting surplus AAOIFI amended their ruling on sharing of Takaful surplus made five 5 ago. The ruling continued to refrain Shareholders from sharing in the underwriting surplus. However, the AAOIFI Shari a Appellate Bench (SAB) has proposed to allow surplus participation with the management team of the Takaful operator. A performance fee of up to 30% may be taken out of participant surplus for the management. SECP issued draft Takaful rules 2012 Securities and Exchange Commission Pakistan issued draft Takaful rules proposing significant changes in the Takaful regulatory framework. The changes shall allow conventional insurance companies to open Takaful windows. Tokio Marine sold its stake in Hong Leong Bhd Tokio Marine sold all shares in its Malaysia Takaful joint venture, Hong Leong Tokio Marine Takaful Bhd., to its local partner Hong Leong Group. Bank Negara Malaysia issued draft risk-based capital framework for Takaful operators The draft risk-based capital framework aims to address solvency requirements described in the IFSB Standard for Solvency Requirements in Takaful Undertakings. GCC & MENA Oman SA & SEA Malaysia GCC & MENA Bahrain GCC & MENA UAE Oman set to allow Takaful operators Oman s Capital Market Authority (CMA) allowed Takaful products. The CMA is in the process of finalizing the regulations and standards required for Takaful operations. Takaful Operational Framework Malaysia s Takaful Operational Framework came into effect in January Its objective is to enhance Takaful business efficiency, ensure healthy and sustainable Takaful funds and safeguard participant s interest. Allianz sold 75% of its Takaful business to Medgulf Allianz Takaful sold 75% shares to Medgulf for Bahrain and Qatar markets. Bancassurance regulations update The Insurance Authority issued a circular in September 2011 to all insurance and Takaful companies in the UAE setting out guiding rules which UAE insurance and Takaful companies should adhere to in distributing products through banks. Business events Regulatory events 8 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

11 Global events affecting Takaful A number of political and economic events being witnessed around the world are likely to impact the Takaful industry Europe The European crisis has dampened the prospects of Takaful making gains in that market. Increased solvency requirements add to the difficulty of launching Takaful, given the risk structure of Takaful and the favorable treatment of debt instruments in the capital adequacy calculation. It may also limit the appetite of European insurers for investing overseas, as the new rules apply at a group level as well as at insurer level. MENA The Arab Spring has hurt the attractiveness of populous Muslim markets such as Sudan and Tunisia for foreign investment. Specifically Libya and Egypt were considered as high potential growth markets. A number of projects have been postponed or at least affected due to the prevailing situation in these countries. Saudi Arabia The Saudi Arabian Monetary Authority (SAMA) had directed all operators to align with the cooperative insurance model by year end Takaful operators had to adjust their internal accounting structures, remove the use of Wakala and Qard and amend product terms and conditions. Saudi is a huge Takaful market and this shift away from the pure Takaful model may have various affects on the industry which is already in need of regulatory harmonization. Sudan Sudan is the largest Takaful market outside the GCC and Malaysia. The recent partition has resulted in the creation of two countries. Oil rich but under developed South Sudan does not support Islamic Finance and Takaful. North Sudan only allows Islamic Finance and Takaful. However, the partition has resulted in a steep drop in North Sudan s GDP growth due to loss of oil revenues. Overall slowdown of economy and reduced FDI will directly impact the growth of the financial sector, including that of Takaful. South East Asia Indonesia is emerging as a significant Takaful market, overtaking several of the GCC countries in Gross Written Contributions (GWC). Along with Malaysia and Brunei, the other two important Takaful markets in South East Asia, the region accounts for USD 2b in total GWC. With Saudi regulators disallowing the pure Takaful model, the primary hub for Takaful may well shift from the GCC, to South East Asia.. Source: Ernst and Young research and analysis 9

12 Global Takaful contributions growth Global gross Takaful contributions reached US$8.3b in 2010 and continue to depict healthy growth. US$4.3b of these contributions came from Saudi cooperatives Global Gross Takaful Contributions including Saudi cooperatives (US$m) CAGR ( ) = 29% Growth (2010) = 19% 1,988 1, ,068 1, ,122 2, , , ,912 6, , ,896 8,329 4, (e) ,951 1,313 Indian Subcontinent CAGR Africa 20% South East Asia GCC- (excluding Saudi) 28% 54% 2010 growth 122% 5% Levant 23% 102% Saudi cooperative 10% 32% 33% 38% 12% Global Takaful - excluding cooperative contributions (US$m) 924 1,219 1,833 2,402 3,079 3,959 Pure Takaful 35% 29% Saudi Arabia requires all insurance companies to operate under a cooperative business model. Similarities exist between the cooperative model and Takaful, so that most re-takaful operators are permitted to conduct business with them. In fact, various regional Takaful operators have subsidiaries in Saudi working under the cooperative model. However, as the model is different from Takaful practiced in other regions, we are treating it in separation to the pure Takaful industry. Source: World Islamic Insurance Directory 2012 (Reproduced with permission from Takaful Re Limited), Ernst & Young analysis 10 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

13 GCC Takaful contributions growth Overall, the GCC experienced relatively slower growth this year post implementation of compulsory medical in Saudi and Abu Dhabi during the last two years Gross Takaful Contributions in the GCC including Saudi cooperatives (US$m) CAGR ( ) = 41% Growth (2010) = 16% 1,238 1, ,088 1, ,846 2, ,753 2, ,886 3, ,683 4, (e) CAGR Bahrain 55% Qatar 41% UAE 98% Kuwait 11% Saudi Cooperative 38% 2010 growth 17% 91% 28% 4% 12% GCC Takaful - excluding cooperative contributions (US$m) ,313 Pure Takaful 55% 33% Saudi Arabia requires all insurance companies to operate under a cooperative business model. Similarities exist between the cooperative model and Takaful, so that most re-takaful operators are permitted to conduct business with them. In fact, various regional Takaful operators have subsidiaries in Saudi working under the cooperative model. However, as the model is different from Takaful practiced in other regions, we are treating it in separation to the pure Takaful industry. Source: World Islamic Insurance Directory 2012 (Reproduced with permission from Takaful Re Limited), Ernst & Young analysis 11

14 South East Asian Takaful contributions growth Indonesia and Brunei are becoming increasingly important Takaful markets. Together with Malaysia, they account for US$2b in gross Takaful contributions Gross Takaful Contributions in South East Asia (US$m) CAGR ( ) = 28% Growth (2010) = 32% 1, , Brunei CAGR % 2010 growth 393% , ,158 1,441 Thailand Indonesia Malaysia 5% 35% 29% 0% 25% 24% (e) Source: World Islamic Insurance Directory 2012 (Reproduced with permission from Takaful Re Limited), Ernst & Young analysis 12 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

15 Other markets Takaful contributions growth Sudan is the most significant market outside GCC and SEA. Jordan and Egypt have just under US$50m in gross Takaful contributions but are showing strong growth Gross Takaful Contributions in Other Markets (US$m) CAGR ( ) = 31% Growth (2010) = 14% CAGR growth Others 35% 59% Bangladesh Sudan 154% 19% 0% 7% (e) Source: World Islamic Insurance Directory 2012 (Reproduced with permission from Takaful Re Limited), Ernst & Young analysis Page 13 13

16 Global Takaful forecast Continued steady growth in core markets and the emergence of new fringe markets such as Indonesia, Brunei and Bangladesh suggest a US$12b industry by 2012 WTR12 Forecasts for Global Gross Takaful Contributions including cooperatives (US$m) The World Takaful Report 2011 forecasted total contributions to reach US$9.1b by The results have been lower (US$8.3b) due to industry slow down in core markets relative to the high growth rates seen in previous years. The anticipated compulsory medical insurance regulation in Dubai and other UAE emirates was not rolled out either. Current growth trends would suggest US$12b in gross contributions by Excluding Saudi cooperative contributions, total Takaful contributions are expected to be reach US$7b by , , ,896 8, ,951 1,313 4,370 10,039 2,572 1,741 4, , ,390 2,310 5, (e) 2011 (f) 2012 (f) Growth 2010 Indian Subcontinent Levant 102% Africa South East Asia GCC- (excluding Saudi) Saudi cooperative 5% 10% 32% 33% 12% Takaful excluding Saudi cooperatives 3,079 3,958 5,137 6,910 Note: Forecast is based on respective growth rates in 2010, adjusted for emerging trends. Sources: World Islamic Insurance Directory 2012, Ernst & Young analysis 14 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

17 Takaful contribution concentration centres The GCC has a high number of Takaful operators and relatively low average contributions per operator. 77 operators grew their contributions by an average of US$10m in 2010 Takaful Contributions per operator Levant GCC Saudi Arabia Avg. contributions per operator: US$9m Takaful growth 2010: 102% Avg. contributions per operator: US$74m Takaful growth 2010: 16% Avg. contributions per operator: US$141m Takaful growth 2010: 12% Source: World Islamic Insurance Directory 2012, Global Insights, Alpen Capital GCC Insurance Industry Report 2011,Ernst & Young analysis 15

18 Takaful contribution concentration centres Malaysia has a relatively high ratio of average gross written contributions per operator. The 14 operators in Malaysia grew their contributions by an average of US$20m in 2010 Takaful Contributions per operator Indian Sub-Continent Africa Malaysia Avg. contributions per operator: US$17m Takaful growth 2010: 5% Avg. contributions per operator: US$13m Takaful growth 2010: 10% Avg. contributions per operator: US$141m Takaful growth 2010: 24% Source: World Islamic Insurance Directory 2012, Global Insights, Alpen Capital GCC Insurance Industry Report 2011,Ernst & Young analysis 16 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

19 Key business lines Medical Takaful has become a major business line in GCC. Family Takaful is the dominant business line in Malaysia. Marine and Aviation Takaful business activity remains minimal 100% Key Takaful business lines in major markets (2010) 90% 80% 70% 60% % 4 40% 30% 20% 10% 0% Iran GCC and Levant South East Asia Indian sub - continent Total Family and medical Marine and aviation Property and accident Motor Source: World Islamic Insurance Directory 2012, Ernst & Young analysis 17

20 Potential Takaful markets There are large Muslim population centers throughout the emerging markets of MENA and Asia. Many of these markets hold great potential for Islamic Finance and Takaful Global Estimated Muslim Populations in 2010 Turkey Population: ~75 m Per Capita income: $12,390 Insurance penetration: 1.3% CIS Region Population: ~ 61 m Per Capita income: $ 10,715 Insurance penetration: N/A Russia Population: ~ 16 m Per Capita income: $15,756 Insurance penetration: 2.3% Morocco Population: ~32 m Per Capita income: $7,360 Insurance penetration: 2.8% China Population: ~ 23 m Per Capita income: $7,503 Insurance penetration: 3.8% Bangladesh Population: ~148 m Per Capita income: $3,125 Insurance penetration: 0.9% Estimated Muslim Populations in 2010 Algeria Population: ~35 m Per Capita income: $7,100 Insurance penetration: 0.8% 100m m 10 50m 5 10m 1 5m Under 1m Nigeria Population: ~75 m Per Capita income: $2,241 Insurance penetration: 0.5% Egypt Population: ~80 m Per Capita income: $5,598 Insurance penetration: 0.7% Pakistan Population: ~178 m Per Capita income: $1,250 Insurance penetration: 0.7% Indonesia Population: ~213 m Per Capita income: $4,094 Insurance penetration: 1.5% India Population: ~177 m Per Capita income: $3,194 Insurance penetration: 5.1% Source: Global Insights (Per Capita Income is based on PPP of individual markets), Pew Forum 18 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

21 Takaful s untapped potential The Takaful industry is currently concentrated in limited markets, segments and business lines. However, there is immense unrealized potential that can be achieved 1 Potential market space in Takaful hubs Share of Islamic Finance in GCC and Malaysia is 25% and 22% whereas Takaful market share is 15% and 10% respectively. Takaful has at least 10% of the known Shari a inclined market that they have not yet tapped. As the industry matures and establishes stronger distribution capabilities, this additional market space will be captured. 2 Untapped customer segments Takaful, with its Shari a appeal, is predominantly retail driven in most markets. Corporate business is attracted through a value proposition based on the operators reputation, history, product suite, service standards, relationships and pricing. For Takaful, the corporate customer segment has significant room for growth. Focus on underwriting capabilities, service standards and product offering, together with stronger market relationships will allow Takaful to tap the corporate segment. 3 GCC s untapped business lines The GCC Takaful market predominantly comprises of general Takaful business with family Takaful accounting for as little as 5% in certain markets. With high disposable income average and low market penetration, the GCC presents potential for family Takaful. Focus on customer research to understand needs and expectations, in addition to focus on customer education and distribution capacity building shall allow tapping into this market. 19

22 Takaful s untapped potential The Takaful industry is currently concentrated in limited markets, segments and business lines. However, there is immense unrealized potential that can be achieved 4 Global market potential Conventional insurance has penetrated a small percentage of the 1.6b Muslims market globally. Whether this is due to religious inclinations, inadequate insurance distribution or lack of education around insurance products, the untapped segment provides huge potential for Takaful. Focus on customer research to understand needs and expectations, in addition to focus on customer education and distribution capacity building shall allow tapping into this market. 5 6 Frontier market potential Potential of dormant markets Large Muslim markets such as Libya, Egypt, Bangladesh, Indonesia and Brunei are opening up to Takaful. Recent regime changes in MENA countries including Egypt, Libya and Tunisia have brought forward Islamist governments that are encouraging Islamic finance. Bangladesh, Brunei and Indonesia are emerging as important frontier markets for Takaful, showing healthy growth. India, China, Russia, Turkey and CIS countries have immense potential for Takaful based on the size of their Muslim populations and the growth in their economies. Takaful has not been permitted and / or facilitated in these markets until now. However, these markets hold considerable potential for Takaful should there be encouragement from their governments. Establishment of separate regulatory frameworks for Takaful will accelerate growth in these markets. Technical and financial assistance from IDB and other facilitating organizations are important Local insurers need to encourage their regulator / government to facilitate Takaful. Lobbying by IDB / OIC to create awareness and acceptance for Takaful in these markets is important. 20 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

23 Takaful s untapped potential The Takaful industry is currently concentrated in limited markets, segments and business lines. However, there is immense unrealized potential that can be achieved 7 Micro- Takaful A sizable portion of Muslim populated countries are characterized by having low income / lower-middle income households (Indonesia, Pakistan, Bangladesh, Sudan). They are also characterized by having low insurance penetration rates. This may be due, in part, to religious views towards conventional insurers but is also due to the unavailability of products suitable to the low income target market. Micro Takaful products can allow tapping into the large low income and lowermiddle income segments characterizing most Muslim populated countries. 8 Distribution and reach 9 Potential of value driven segment There is limited awareness of insurance products, savings and retirement plans in most Muslim majority countries. The market is there for risk mitigation tools but traditional mechanisms are relied upon. Conventional distribution channels are being used to target the Takaful market. Direct sales force, agencies, bancatakaful partners have limited training on Takaful and its unique selling proposition. Shari a compliance offers an advantage over conventional insurers in targeting the Shari a inclined Muslim segment. However, no significant disadvantage hinders Takaful from targeting non-muslims. In theory, Takaful has a larger potential market than conventional insurance as Takaful is able to tap the additional Shari a inclined market segment. The value driven, Shari a neutral market holds significant potential, specially in under penetrated markets. Greater Takaful awareness amongst religious scholars and mosque Imams will promote acceptability and awareness in the market. Focus on Takaful training for sales channels will enhance sales productivity. With maturity and scale, Takaful operators should be able to establish efficiencies, service quality, product variety, distribution strength to compete for the value driven, Shari a neutral segment. 21

24 Contents Introduction Industry Growth Financial Performance Business Challenges Regulations for Growth Insurance companies continued to yield higher returns than Takaful. Saudi cooperatives struggled to show positive returns Investment yields for Takaful were again lower than their conventional counterparts, in both Malaysia as well as the GCC Appendices 22 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

25 Breakdown of financial performance Insurance companies and Takaful operators generate shareholder returns through a number of key drivers Company RoE (Page 24) Combined Operating Ratio Reinsurance Ratio (Page 25) (Page 29) Investment Results (Page 30-1) Commission Investment Claims Ratio Expense Ratio Returns Ratio Composition (Page 26) (Page 27) (Page 28) (Page 30) (Page 31) Insurance Investments Notes: 1. Data used for the analysis is based on the annual reports of a sample of Takaful operators, cooperatives and conventional companies covering the GCC, Saudi Arabia and Malaysia. 2. Annual reports of some of the companies for the year 2011 were not available at the time of publishing. In such cases, data has been annualized. 3. Numbers may differ from those reported in previous reports as the sample size has been enhanced and Saudi Arabian cooperative insurance entities have been excluded from pure Takaful companies. Saudi Arabian cooperatives includes certain companies that are branded as Takaful operators. 4. Refer to Appendix for complete list of operators and companies included in our sample. 23

26 Return on equity Insurance companies continue yielding higher returns than Takaful. Saudi cooperatives have struggled for profitability since after the financial crisis Shareholder returns on insurance operations are higher than Takaful shareholder returns, both in the GCC and Malaysia. Insurers, having more long term / short term investment options, have made higher investment income than Takaful operators. Their scale, longer operating history and market relationships have allowed them to build a more profitable business mix while Takaful has relied predominantly on retail business and relatively fewer product classes. Saudi cooperatives have struggled for profitability. Most Saudi operators are new in the market and are absorbing their pre-incorporation costs. The market is dominated by three players with the remaining operators incurring high expense ratios and loss ratios in their effort to quickly build market share. Average return on equity for a sample of Takaful operators, insurance companies and cooperatives 20% 18% GCC Sample Saudi Arabian Sample Malaysian Sample 20% 18% 20% 17% 15% 10% 5% 10% 9% 8% 9% 9% 4% 4% 15% 10% 5% 15% 10% 5% 14% 5% 11% 4% 14% 10% 6% 4% 0% -5% -10% % -2% 0% -5% -10% % -7% 0% -5% -10% % -15% -15% -10% -12% -15% Insurance Companies Takaful Operators Cooperative Insurance Companies Notes: 1. Where possible, publicly available corporate information has been used. 2. Quarterly results have been used in 2011 to approximate data where annual accounts were not available. 3. GCC Takaful sample excludes Saudi operators in this report. Therefore, the graph shows a significant variation from WTR RoE = Net profit / Shareholders equity. Sample: No. of Companies GCC Insurance GCC Takaful Saudi Arabia Cooperative Insurance Malaysia Insurance Malaysia Takaful Source: Companies annual reports, Ernst & Young analysis 24 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

27 Combined operating ratio Malaysian Takaful operators have better COR than conventional peers while the reverse is true for the GCC COR for a sample of Takaful operators, insurance companies and cooperatives GCC Sample Saudi Arabian Sample Malaysian Sample 160% 160% 160% 140% 140% 140% 120% 100% 80% 60% 90% 90% 91% 89% 87% 78% 81% 81% 77% 102% 120% 100% 80% 60% 91% 107% 86% 86% 90% 120% 100% 80% 60% 89% 72% 92% 91% 92% 87% 70% 59% 61% 78% 40% 40% 40% 20% 20% 20% 0% % % Insurance Companies Takaful Operators Cooperative Insurance Companies Notes: 1. Where possible, publicly available corporate information has been used. 2. Quarterly results have been used in 2011 to approximate data where annual accounts were not available. 3. GCC Takaful sample excludes Saudi operators in this report. Therefore, the graph shows a significant variation from WTR Combined Operating Ratio = Net Claims Ratio + Net Commission Ratio + Net Expenses Ratio. Source: Companies annual reports, Ernst & Young analysis Sample: No. of Companies GCC Insurance GCC Takaful Saudi Arabia Cooperative Insurance Malaysia Insurance Malaysia Takaful

28 Claims ratio Malaysian operators show lower claims ratios on general and family Takaful lines Malaysian general Takaful operators yielded significantly lower claims ratios compared to GCC counterparts in previous years saw higher than expected claims in motor for the Malaysians. Malaysian family Takaful claims ratios were slightly lower compared to GCC operators as well. Overall, year 2010 saw a rise in claims in both, GCC and Malaysian markets. Average claims ratio - Family Average claims ratio - General 70% 70% 60% 60% 50% 50% 40% 40% 30% 30% 20% 20% 10% 10% 0% % Life Malaysia family Takaful UAE life insurance Combined Bahrain Saudi Arabia General UAE general Malaysia general Notes: 1. Data for Bahrain and Malaysia is specific to the Takaful industry, while data for Saudi Arabia and UAE covers the insurance industry as a whole. 2. Data for Life/ Family and General Takaful are provided separately for UAE and Malaysia. For Saudi and Bahrain, only combined data was available publically. 3. Claims ratios for UAE, Saudi and Bahrain are provided on gross claims basis. Data for Malaysia was available on net claims basis. 4. Claims Ratio = Claims incurred / Earned contribution. Source: CBB Insurance Market Review 2011, Bank Negara Malaysia Annual Takaful Statistics 2010, UAE Insurance Authority Annual Statistics 2009, SAMA Insurance Review THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

29 Average commission ratio Takaful operators pay higher net commission than conventional insurers, both, in Malaysia and the GCC In the GCC, conventional insurers are net commission earners. Their scale allows them to obtain favorable terms with reinsurers and brokers. Most GCC Takaful operators are less that 5 years old and still in the process of achieving scale. These operators are paying higher commissions to build market share. In Malaysia, Takaful Operators have historically paid more net commissions than conventional counterparts. However, by building market share, they have managed to reduce this difference in recent years. Saudi Arabian insurance sector is dominated by 3 players. A large number of new cooperatives have recently entered the market and are competing aggressively for market share. Average commission ratio for a sample of Takaful operators, insurance companies and cooperatives GCC Sample Saudi Arabian Sample Malaysian Sample 20% 15% 10% 5% 0% -5% -10% -15% 17% 14% 9% 9% 4% % -7% -5% -8% -10% 20% 15% 10% 5% 0% -5% -10% -15% 11% 11% 11% 7% 6% % 15% 10% 5% 0% -5% -10% -15% 18% 16% 12% 14% 13% 13% 12% 10% 8% 6% % -20% -20% Insurance Companies Takaful Operators Cooperative Insurance Companies Sample: No. of Companies Notes: 1. Where possible, publicly available corporate information has been used. 2. Quarterly results have been used in 2011 to approximate data where annual accounts were not available. 3. GCC Takaful sample excludes Saudi operators in this report. Therefore, the graph shows a significant variation from WTR Average Commission Ratio = Net Commission / Net Earned Premium. GCC Insurance GCC Takaful Saudi Arabia Cooperative Insurance Malaysia Insurance Malaysia Takaful Source: Companies annual reports, Ernst & Young analysis 27

30 Average expense ratio Takaful operators in the GCC have higher expense ratios than GCC insurers as well as Malaysian Takaful operators Characterized by relatively young market players, the GCC Takaful industry has yielded higher expense ratios than insurers operating in the same market. These expense ratios are also higher than those of Malaysian Takaful operators who concentrate more on family Takaful business as opposed to general Takaful. Malaysian Takaful operators are at par with conventional counterparts in their expense ratio yields. This indicates the degree of maturity that the Takaful industry has achieved in the country. Saudi cooperatives have seen their expense ratios rise over the past few years. However, there is a significant decline in Average expense ratio for a sample of Takaful operators, insurance companies and cooperatives GCC Sample Saudi Arabian Sample Malaysian Sample 40% 35% 30% 25% 20% 15% 10% 5% 0% 35% 33% 31% 27% 28% 27% 28% 25% 24% 23% % 35% 30% 25% 20% 15% 10% 5% 0% 38% 28% 23% 21% 18% % 35% 30% 25% 20% 15% 10% 5% 0% 37% 26% 26% 23% 24% 22% 23% 23% 22% 16% Insurance Companies Takaful Operators Cooperative Insurance Companies Sample: No. of Companies Notes: 1. Where possible, publicly available corporate information has been used. 2. Quarterly results have been used in 2011 to approximate data where annual accounts were not available. 3. GCC Takaful sample excludes Saudi operators in this report. Therefore, the graph shows a significant variation from WTR Average Expense Ratio = General and Administrative Expenses / Net Earned Premium. GCC Insurance GCC Takaful Saudi Arabia Cooperative Insurance Malaysia Insurance Malaysia Takaful Source: Companies annual reports, Ernst & Young analysis 28 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

31 Reinsurance ratio Takaful operators generally retain more business, which reflects a focus on less complex business lines Takaful operators, in both GCC and Malaysia, retain more business than conventional counterparts. This may be a reflection of their business mix, with Takaful operators predominantly relying on less complex retail business. GCC Takaful operators, having predominantly general Takaful business, have significantly higher reinsurance ratios than Malaysian counterparts that have majority family Takaful business. Saudi cooperatives have seen a decrease in their reinsurance ratio in recent years. Reinsurance ratio for a sample of Takaful operators, insurance companies and cooperatives GCC Sample Saudi Arabian Sample Malaysian Sample 60% 50% 40% 30% 20% 52% 52% 50% 50% 47% 47% 45% 42% 34% 34% 60% 50% 40% 30% 20% 42% 40% 32% 37% 27% 60% 50% 40% 30% 20% 18% 22% 23% 23% 12% 25% 20% 10% 10% 10% 6% 9% 8% 0% % % Insurance Companies Takaful Operators Cooperative Insurance Companies Sample: No. of Companies Notes: 1. Where possible, publicly available corporate information has been used. 2. Quarterly results have been used in 2011 to approximate data where annual accounts were not available. 3. GCC Takaful sample excludes Saudi operators in this report. Therefore, the graph shows a significant variation from WTR Reinsurance Ratio = Insurance premium ceded / gross premium written. GCC Insurance GCC Takaful Saudi Arabia Cooperative Insurance Malaysia Insurance Malaysia Takaful Source: Companies annual reports, Ernst & Young analysis 29

32 Investment composition Investment strategies have remained largely unchanged over the last couple of years Average investment portfolio composition for a sample of Takaful operators, insurance companies and cooperatives 120% GCC and Saudi Arabian Sample 120% Malaysian Sample 100% 80% 16% 11% 10% 19% 32% 28% 26% 100% 80% 31% 28% 20% 22% 20% 60% 40% 20% 68% 66% 22% 31% 31% 37% 37% 38% 60% 40% 20% 44% 25% 40% 48% 27% 27% 56% 57% 20% 20% 0% 4% 5% 8% 5% 5% % 6% 5% 2% 3% Real Estate Equity Sukuk Deposits Notes: 1. Where possible, publicly available corporate information has been used. 2. GCC and Saudi Arabian sample includes cooperative insurance companies. 3. Quarterly results along with discussions with industry leaders, have been used in 2011 to approximate data where annual accounts were not available.. Source: Companies annual reports, Ernst & Young analysis Sample: No. of Companies GCC and Saudi Arabia Malaysia THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

33 Investment returns GCC Takaful operators have experienced high volatility in investments. Overall, conventional insurers have achieved better investment returns Average return on investments for a sample of Takaful operators, insurance companies and cooperatives GCC Sample Saudi Arabian Sample Malaysian Sample 20% 20% 20% 15% 10% 5% 15% 13% 9% 8% 10% 5% 11% 6% 15% 10% 5% 14% 2% 1% 2% 2% 15% 10% 5% 9% 6% 3% 4% 6% 3% 5% 12% 6% 4% 0% % % % -2% -4% -5% -5% -10% -10% -10% Insurance Companies Takaful Operators Cooperative Insurance Companies Sample: No. of Companies Notes: 1. Where possible, publicly available corporate information has been used. 2. Quarterly results have been used in 2011 to approximate data where annual accounts were not available. 3. GCC Takaful sample excludes Saudi operators. Therefore, the graph shows a significant variation from WTR Average Yield on Investments = Total Investment Returns / Total Investment. GCC Insurance GCC Takaful Saudi Arabia Cooperative Insurance Malaysia Insurance Malaysia Takaful Source: Companies annual reports, Ernst & Young analysis 31

34 Key Strategic Issues Financial performance remains a challenge for Takaful operators in many markets Key Strategic Issues Quality of underwritten 1 Efficiency in operation 2 3 business Solvency and capital requirements Most Takaful operators are yet to achieve critical business volume, despite incurring substantial establishment costs over formation years. Expense ratio remains higher than conventional peers in the GCC market, although improvements have been made in the Malaysian market. Distribution capabilities, along with service quality remain a key challenge to better performance for Takaful operators. Most takaful operators are startups or small players, limiting their access to quality customers which negatively impacts their loss ratios. There is concentration of business in the retail segment. Access to potentially lucrative commercial lines is limited due to underdeveloped broker relationships, limited operational history and scale. Complex risks are not well understood and potentially mispriced. Stricter solvency and capital requirements will make it harder for smaller players to achieve profitability. Young Takaful players will need to either quickly build scale or consider mergers to meet these requirements. 32 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

35 Contents Introduction Industry Growth Financial Performance Rising competition and evolving regulations and shortage of Takaful expertise were identified as key risks in both GCC and South East Asia Business Challenges Regulations for Growth Appendices 33

36 Takaful business risks Higher competition, evolving regulations and shortage of Takaful human resource expertise are key contemporary business risks for Takaful Takaful Global Business Risks Key Business Risks 2012 Financial Compliance 1 Rising competition 2 Evolving regulations 3 Shortage of expertise 4 Misaligned costs High-risk investment portfolios Competition Evolving regulations Misaligned costs 5 Limited financial flexibility 6 7 High-risks investment portfolios Limited diversification in exposures Limited financial flexibility Shortage of expertise 8 Enterprise risk management Strategic Operational 9 10 Political risks and implications Inability to tap pentup demand Up from 2011 Key to Symbols Down from 2011 Source: Executives and experts interviews, Ernst & Young analysis 34 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

37 Takaful business risks Rising competition and evolving regulations have been identified as key risks in both GCC and South East Asia Takaful in the Gulf Cooperation Council (GCC) Takaful in South East Asia (SEA) Financial Compliance Compliance Financial High-risk investment portfolios 6 2 Evolving regulations High-risk investment portfolios 6 2 Evolving regulations 1 Misaligned costs 3 1 Competition 3 Competition 5 4 Shortage of expertise Inability to tap pentup demand 5 4 Shortage of expertise Strategic Inability to achieve underwriting profit Operational Strategic Limited diversification in exposures Operational Business Risks in the GCC Competition and varying regulatory regimes remain key business risks for Takaful operators. Misaligned costs base have also been identified as a key area of concern. Business Risks in SEA Inability to tap pent-up demand is pushing up strategic risks, while varying regulatory regimes have also become more prominent. Source: Executives and experts interviews, Ernst & Young analysis 35

38 Rising competition Commentary and contributing factors Aggressive pricing for market share: Young Takaful operators are having to rely upon aggressive pricing strategies to compete against the established, older, conventional players. Most interviewees agree that such pricing is not sustainable and causing significant pressure on the industry s profitability. The regional and global economic conditions, together with a stricter stance by regulators, has restricted the entry of additional players in the GCC which already has a high number of operators. Malaysia has a larger insurance and Takaful market with higher contributions per operator. However, the recent addition of three new Takaful operators will raise competition in that market. Market consolidation: Most interviewees argued that the industry would benefit from consolidation. There are increasingly stringent regulatory requirements on capital and solvency, indicating the regulators desired future direction. The current economic climate is making it difficult for small operators to survive and remain financially sustainable. Interviewees thought that consolidation would allow Takaful operators to compete with the larger, more established conventional insurers and also reduce unhealthy prices wars. However, the industry is still growing rapidly which is keeping shareholders interested in their Takaful operations. Untapped opportunities for Takaful remain: Despite competition in certain customer segments and business lines, there are areas where there is very limited Takaful presence. Family Takaful in the GCC is underpenetrated and effective distribution still remains a challenge. Takaful operators face competition from conventional peers as well as each other. - GCC Takaful Executive The industry is too young to be forced to consider consolidation. It needs more time to establish itself before it can be decided which players can sustain themselves and which can not - GCC Family Takaful Executive GCC has some new players building up portfolios. However, focus is on running after the same business and not creating new avenues. - GCC Consultant Actuary Sources: Executives and experts interviews, Ernst & Young analysis 36 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

39 Evolving regulations Commentary and contributing factors Regulations vary significantly across jurisdictions and continue to evolve: A number of regulatory changes were rolled out in different Takaful markets. While most interviewees agreed that the new regulations were a positive development, there was concern over the increased variances in regulatory regimes in place across jurisdictions. It was felt that such variances in Takaful regulations make it difficult for Takaful operators to function across regions and also lead to confusion for customers and multinational insurers. SAMA s efforts in creating uniformity in insurance practices in the country were thought to provide an even playing field for insurers and Takaful operators. However, it remains to be seen how Shari a scholars and Takaful customers view the Shari a compliance of the enforced cooperative model. Pakistan has proposed to allow insurers to offer Takaful products through window operations. Whereas this step will enhance market reach of Takaful, it will bring the young pure Takaful operators under considerable competitive pressure. Higher solvency and capital requirements being introduced across various jurisdictions is likely to result in better capitalized companies but will impact shareholder profitability in the short term. Malaysia has introduced a draft paper on risk-based capital for Takaful firms to strengthen the country s governance and risks management practices. Again, the short term profitability is likely to be affected. Bahrain, Malaysia and Pakistan have comprehensive Takaful regulations in place that take into account the unique requirements of the industry. - GCC Takaful Executive Regulations are becoming cumbersome to deal with and regulators need to be cohesive in their approach for the growth and stability of the Takaful market. - GCC Takaful Executive For most interviewees in the GCC, the key regulatory issue for the year was AAOIFI s ruling on the sharing of underwriting surplus. The ruling allows sharing of underwriting surplus by management but does not allow for the surplus to be shared with shareholders. Interviewees expressed concern that Takaful shareholders were barred from sharing in underwriting profits but required to indirectly share risk of loss through a mandatory Qard facility. The industry practitioners and regulators are attempting to find a way to implement Takaful s conceptual requirements as defined by Shari a scholars in a way that is commercially viable for shareholders and considerate of participants interests. Self-sustainability and solvency of the pools is the most crucial regulatory challenge for Takaful. - GCC Consultant Actuary Sources: Executives and experts interviews, Ernst & Young analysis Page 37 37

40 Shortage of Takaful expertise Commentary and contributing factors Human resources risks continue to be high on the executive agenda: Takaful continues to suffer from a shortage of human resources with requisite expertise. This risk was considered important in both the GCC and South East Asia. According to interviewees, human resource risk is particularly acute in specialist fields, including life insurance, risk management and Shari a compliance. Retaining skilled employees definitely remains a challenge. - GCC Takaful Executive Retention was identified as a key element of this risk, where significant competition for resources has led to aggressive recruitment strategies backed by attractive remuneration. Key-person-risk was also identified by a number of interviewees as a key concern. Institutionalization of knowledge and expertise was a priority for these companies as they tried to mitigate these risks. Interviewees highlighted that inadequate training of people selling Takaful products is hurting the industry as they are not able to differentiate Takaful versus insurance successfully. A number of Shari a scholars interviewed raised the concern that the senior management at many Takaful operators came from the insurance industry. Whilst they were professionals with deep understanding of insurance, many were not familiar with the key Shari a issues associated with the conventional insurance model. Therefore, they were trying to run Takaful as they would run an insurance company. We have outsourced our investment function because of its critical nature at this point and to capitalize on the expertise of our holding company. - Malaysian Takaful Executive We have a mixed approach with respect to investment management activities, with some being done in-house and others being out sourced to competent asset management partners. - GCC Takaful Executive Sources: Executives and experts interviews, Ernst & Young analysis 38 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

41 Contents Introduction Industry Growth Financial Performance Business Challenges Regulations for Growth Appendices Regulations from the Islamic finance standards setting bodies, AAOIFI & IFSB and the global accounting reporting standards from IASB & IFRS, need greater convergence. This standardization will make it easier for market regulators to provide a framework to regulate the Takaful Operators. 39

42 Key issues facing the regulators and industry that will influence the industry growth rate As the industry continues to grow and develop, market regulators and the two bodies that set the Islamic finance industry standards, AAOIFI and IFSB, are facing head on the challenges of implementing a successful and effective regulatory framework. Follow Principles of Shari a Compliance with Solvency I & II Industry Growth Consumer Confidence Sustainable Profitability Safeguard Shareholder /Contributor Funds 40 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

43 The role of the Regulator Regulators across the world have different objectives and roles to play in their domestic markets. Most have the common goal of protecting consumers and this translates into a number of the activities Takaful operators have to comply with. License, Supervise, Inspect Safeguard consumers interests Policyholder Protections Consumer Education Orderly growth of the Takaful industry Appropriate Regulations Licensing Of New Firms Promote high standards of behaviour, competence Fit & Proper Requirement Monitor Sales Process Take punitive action where needed Ensure financial stability and soundness of firms and industry Censure Discipline Fine Solvency I & II Revoke Licence Regulatory Capital 41

44 Comparison of capital requirements and integration with AAOIFI A& IFSB across markets Features UAE Bahrain Saudi Arabia Kuwait Malaysia Qatar Minimum Regulatory Capital Requirement (in US$m) General Domestic insurance company 0.4 Foreign insurance company Life Same as above Reinsurance n/a Accounting N Y N N N N AAOIFI Standards Shari a N Y N N N N Governance N Y N N N N IFSB Standards IFSB Standards are yet to be considered for adoption by most of the countries. Malaysia is taking lead by incorporating various recommendations of IFSB in its regulations. Source: Ernst &Young analysis, Market Regulators 42 THE WORLD TAKAFUL REPORT 2012: Industry growth and preparing for regulatory change

45 Significant developments over the past 12 months There have been 3 major developments which could have a material impact on the future growth story of the Takaful industry. AAOIFI begins consultation on Takaful companies allowing performance fees for Management but not the Shareholders 43