For many reasons, it is good that life insurance firms are opting for initial public offerings (IPOs). Big IPOs lead to market depth—crucial now for India because household money is finally coming to equities through institutions. It is also good for those tracking this industry because listings will encourage more public scrutiny of insurance firms through analysts covering the sector, through institutional investors such as mutual funds and pension funds, and products from this industry itself such as the unit-linked insurance plans (Ulips). It will be interesting to see which equity Ulips buy into what life insurance company stocks. Then there is the public debate that takes place around an IPO and its merits.
For instance, there is already some social media debate about the disclosures of ICICI Prudential Life Insurance Co. Ltd’s persistency ratio. This is an important number from the point of view of both the policyholder and the investor. Notice that there can be times when investor and policyholder interests vary. It may be good for investors, for instance, that lapsation profits are booked, but not so good for the policyholder.
Persistency and lapsation profits—too much jargon? Let me explain both, for they are linked. Let’s begin with persistency. Life insurance is a long-term business and policies are sold to look after the risk and saving needs over the lifetime of a policyholder. Life insurance advertisements talk about the far future: of kids’ education goals, marriage, your retirement. Most of these are 15-30 years away for buyers of these plans. When the product being sold is long term, say, with a 15-year-maturity term (the premium paying term could be lesser), it is important to see how long the product is funded by the policyholders. This data comes through a number called the persistency ratio. This tells you how many policies sold in the past are still funded today. The Insurance Regulatory and Development Authority of India (Irdai) discloses this in its Handbook of Statistics every year. You can see the handbook at http://bit.ly/2cUIc9p.
This number is important because life insurance is a long-term business that front-loads costs in the first year. The first-year premium mostly goes towards meeting costs and it is the subsequent premiums that start generating the margins. The costs get recovered over the lifetime of the policy and, unless the policyholder funds the policy every year over the term of the policy, profitability for the company takes a hit. This does not matter for firms that have a large part of their business coming from selling traditional plans because they continue to book ‘lapsation profits’ out of policies discontinued in the first 2 or 3 years. Today, Ulips are a better product because they do not trap the investor into losing all her money once she buys a policy (a term policy is even better because it gives the biggest bang for the insurance buck). Remember that Ulip rules changed in 2010, taking away most of the toxicity in the product by not allowing insurers to appropriate all investor money if they ‘lapsed’ (stopped funding) their policy within the first 5 years. Traditional plans continue to appropriate investor savings if the policy lapses within the first 2 or 3 years. Firms are allowed by the regulator to book this money as ‘lapsation profits’ after 2 years.
Ulips can no longer book these profits; traditional plans can, and do.
Which brings me back to the persistency number. This tells us how many of the policies sold in the past are alive and funded today. ICICI Prudential Life has disclosed the 13th and 49th month persistency in its IPO documents for FY16 at 82.4% and 62.2%, respectively. I’m assuming that this disclosure is in line with Irdai’s definition of persistency by number of policies and not premium. It would have been good to see the 61st month number as well, since it is part of the disclosure mandate by Irdai. It’s interesting that the firm is calling 13th month persistency the second year and 49th month the fifth year persistency, because actually the 13th month persistency number tells you how many policies completed a year, the 49th month number tells you how many completed 4 years and 61st month number tells you how many policies paid the fifth year premium. What did these numbers look like last year? Using Irdai’s public data that is updated till FY15, we find that 61st month persistency in terms of number of policies is 16.7% for FY15 for ICICI Prudential Life. The regulator is yet to make the FY16 numbers public. The persistency for both ICICI Prudential Life and HDFC Life (the next big life insurer with an issue in the pipeline) can be seen in table ‘Persistence of life insurance policies’. If you want the full data, go to the handbook and look at pages 210 and 211.
Clearly, persistency numbers are improving and both companies have been cleaning up their business for the past few years, changing the product mix away from traditional plans and towards the more transparent Ulips, and working to bring persistency numbers up. Going IPO is good for the market, good for better disclosures and will hopefully be good for the policyholders.
Monika Halan works in the area of consumer protection in finance. She is consulting editor Mint, consultant NIPFP, member of the Financial Redress Agency Task Force and on the board of FPSB India. She can be reached at email@example.com.