Getting out in front on IFRS for insurance contracts

By Paul Downes and Michelle John

A recent survey we took of life actuaries in Canada revealed a sobering fact – only 9% believe the new IFRS standard for insurance contracts will improve financial statements and only 10% believe that the benefits of implementing the new standard will outweigh the cost.

Sobering, but honestly not surprising.

Insurance contract valuation varies widely around the world. Some areas use prescriptive, locked-in assumptions that IFRS adoption will justifiably phase out for the most part. But current methodology in Canada is already based on a fair-value approach using up-to-date assumptions that integrate liabilities with the assets supporting them. Companies are going to incur real costs for changes to systems and models, including additional resourcing and opportunity costs in deferring other strategic initiatives.

Considering that the large-scale objective of IFRS is basically to get the entire accounting world “on the same page,” certain degree of upheaval is only natural. You might even call it necessary, despite the costs. And besides, costs can be controlled.

We expect the new standard to be published towards the end of 2016, at which point insurers’ implementation plans and efforts will ramp up considerably. At the moment, our survey shows that companies’ exhibit an average level of readiness across a range of requirements.

This is definitely a start.

On your marks
We asked participants from large and mid-sized Canadian life insurers 13 questions covering technical aspects of the guideline, implementation, and project status. Broadly speaking, we wanted to see:

1. How well Canadian actuaries understand the upcoming requirements, and 
2. Whether they are ready to implement them.
   

In terms of actuarial functions, besides valuation and financial reporting, survey respondents identified pricing and product development as an area of significant change, along with investment strategy and asset liability management. It’s expected that implementation of the new standard will have medium-to-high impacts on actuaries and finance teams in most aspects of the reporting cycle, and a sizable majority of respondents also estimate implementation will require three (43%) to four or more (38%) years to complete – compared to International Accounting Standards Board’s expectation of three years between the final release of the standard and the effective date of the guidance.

Many respondents also expect to increase their actuarial staffing levels to varying degrees as a result of the changes, with 24% still undecided. Given that Canadian insurers will all be implementing the standard at the same time, we anticipate stiff competition for resources. Companies should therefore be careful to build a resource component into their implementation plans.

Planning activities
We expect the following activities to be included in a company’s IFRS implementation project plan:

• Establishing a project management office (PMO) or program management team
• Conducting high-level impact studies
•  Assessing potential impacts on financial results
• Reviewing data and IT systems
• Reviewing actuarial models
• Reviewing financial reporting and controls
• Educating and training staff and other stakeholders
• Planning for, and executing, external communications
• Discussing impacts on strategy

Many respondents have established teams and have planned for a number of these activities. Roughly 50% will do a high-level assessment by the end of the year, while more detailed reviews of data, models and controls will likely extend into 2017. Fully 24% of respondents, however, are not at all clear on when they will establish a PMO or program management team.

With the scope and reach of this project, it is important that companies consider the initiative holistically and undertake well-structured planning exercises.

Get set
In terms of overall readiness, the results are fairly balanced, if not entirely encouraging. On average, respondents land somewhere in the middle of a 3-point scale where 1 is not ready at all, 2 is somewhat ready, and 3 is very ready indeed.

The same is true of companies’ understanding of various key IFRS concepts and definitions, from transition rules on implementation and risk adjustment to variable fee-for-service approach and contractual service margin (CSM), plus others – an average of 2.1 out of 3, where 1 is very little understanding, 2 is basic, and 3 is in-depth.

Companies are not, however, as far along in determining methodologies and approaches to use, averaging a narrower 1.4 to 2.0 out of 3 on such matters as

• Determining IFRS 9 adoption approach and interaction with IFRS 4
• Choosing a measurement model
•  Determining transition approaches, and
• Determining a methodology for setting discount rates.

Within this range, the industry is furthest along with determining the IFRS 9 adoption approach. Another couple of areas where there is good progress is determining what contracts are in-scope (29% have completed) and choosing a measurement model (19% have decided), which makes complete sense given that both of these tasks are pivotal to the rest of the project.

We also asked respondents to gauge the relative challenge level represented by various features of the new standard. These include both implementation challenges and conceptual challenges, which can even overlap, as with income statement preparation. Here, there will be changes required to general ledgers and reporting systems (implementation), and education of both internal and external stakeholders (conceptual) will be required.

As it happens, survey respondents consider the revised income statement preparation standard to be the most challenging, followed closely by transition approaches, risk adjustments and the CSM. Interaction with IFRS 9 and the setting of the discount rates are perceived as the least challenging, while treatment of participating products and the potential for increased volatility are seen as somewhat challenging.

Ready or not . . .
When we distributed our survey in December, the International Accounting Standards Board was still deliberating technical issues. Given that this standard has been delayed a number of times, not only is it not a surprise that so few Canadian actuaries are enthusiastic about the benefits, it’s also not surprising that they haven’t moved all that far on it.

Ultimately, most respondents are simply looking for final guidance (90%) and a definitive timeline (71%) to move the project forward. A slim majority (57%) are keen for support from third-party software providers and 38% are watching for peer momentum.

For our part, we’ll be looking for industry to spend the rest of 2016 building its understanding of methodologies and implications, especially in setting discount rates and risk adjustment calculations and disclosure. Assuming the final standard is issued by the end of the year, we’ll also be looking for momentum to pick up in 2017.