3 March 2014Analysis

Choosing your captive manager

Parent companies opting to establish a captive would do well to consider their options in terms of captive management. The captive manager plays a central role in the entity’s establishment, its development and, ultimately, its success. It pays to take a considered approach.

As Dr Paul Wöhrmann, head of captive services at Zurich Global Corporate for Europe, APAC & LATAM explained, “Captives today face an increasingly challenging world. They are confronted with significant regulatory pressures and then there are the challenges of underwriting, claims reserving, accounting and last but not least tax. Captive managers need to have a wide range of expertise.”

Anandi Nangy-Kotecha, associate director at AM Best concurred, adding that parents would benefit from a manager with “underwriting capabilities—specifically as regards pricing and reserving—and expertise in the particular lines of business the captive is going to be writing”.

She added that an ability to detect and advise on regulatory or tax changes that could affect the captive well in advance of implementation, and a wide view of the market, will all benefit the parent as the captive manager helps it to navigate the market. The question is how involved the parent wants the captive manager to be in the running of the entity.

As Pierre Sonigo, secretary general of the Federation of European Risk Management (FERMA) explained, the manager should be there to “ensure governance and compliance are in line with local laws and regulation” and to help manage operations, and he added that parents need then to consider whether they want to limit the manager’s capacity to just that. Or, do they want their manager also to deliver consultancy and advice and be “involved in the decision-making process for coverage, limits, deductibles and the choice of reinsurance partners”, asked Sonigo.

Sonigo said that he tends to favour limiting the involvement of captive managers to the day-to-day running of the captive and its legal and regulatory requirements, leaving the parent’s risk management team “to decide what limits are put in place and which reinsurers to work with”. This approach tends to suit more sophisticated parents, he said, although not necessarily.

Nangy-Kotecha said that the decision depends upon the level of service required by the parent. Does the captive manager need to be lightly or extensively complemented by the parent’s in-house expertise? “Is it better to deal with a captive manager who provides the full range of services, or deal with several third parties?”

Wöhrmann said that opting for a full service captive manager depends very much on the business the parent intends to run through its captive. Noting pressure from the impending Solvency II regime, he said that regulators are increasingly looking to encourage greater portfolio diversification within captives.

“A lot of European companies are exploring their capital positions as a result of the capital requirement under Solvency II and this is where a good captive manager can help.”

As a result, a number of captives are now considering adding life risks to their existing non-life captive portfolio, he said. “If you run a volatile non-life portfolio, often your parent is obliged to inject more capital into the captive. When you add in less volatile lines such as employee benefits it achieves diversification, which in turn allows you to manage your capital in a much more efficient way.

“A lot of European companies are exploring their capital positions as a result of the capital requirement under Solvency II and this is where a good captive manager can help.

“If the parent company takes a holistic view and wants to use its captive for non-life and life business, there is a different scope to the role of captive manager as opposed to where a captive manager only has the mandate to run the legal entity. In such instances, taking a full service approach may well make sense.”

Scale versus disclosure

The second question captive parents need to consider is whether to opt for a large, well-known captive manager or to go with a smaller independent outfit. For Sonigo it boils down to the “competency and quality of the individual team”, be they within a large or small firm. Within this he says that parents should look to the quality of IT and reporting systems, confidentiality and cost.

Addressing the issue of confidentiality at some of the larger captive managers, Sonigo said that it is “important to have appropriate firewalls in place between the captive and the broker parent”, otherwise they may gain insights into programmes being placed with other brokers. As such, Sonigo favours an independent broker, arguing that if you opt for a large broker you need to have a strong confidentiality agreement in place. He did add that parents must nevertheless satisfy the demands of auditors who may favour household names over independent managers.

Larger managers are not without their benefits, however, and are able to bring significant firepower to bear. As Nangy-Kotecha explained, larger captive managers are able to “pull together significant resources and sometimes across multiple geographic locations”. Capabilities may also extend to include affiliated companies with services the captive may want to draw upon, she said.

Andreas Ruof, head of proposition development at Zurich Global Corporate, captive services, added that captives with an international spread of risk can benefit from a captive manager with operations wherever they have insurable interests.

“What such parents need is a partner that can provide full international programme capabilities for a broad range of corporate risks, including fronting and issuing policies in places where they need standalone policies, in combination with their traditional captive capabilities,” he said. “In most instances only a captive manager with a truly global footprint and well-managed international network is able to deliver this kind of capability.”

Beware: workload

Captive managers inevitably handle a number of accounts so it is important for parents to establish the level of their workload. Addressing the issue, Wöhrmann said that it depends very much on the complexity of the structures that the manager is dealing with. “Do they have a mandate to run just the captive, or are they managing the entire risk management and reinsurance-buying function of the parent company?” he asked.

“There is always a positive to handling multiple clients in that a diversity of accounts provides a wider range of experience for the account manager and that reflects on the input they can give to parent companies,” said Nangy-Kotecha, although she cautioned against overload.

She warned that pressure has the potential to compromise the quality of service, although in the case of more experienced captive managers they will have the resources and ability to handle more and more complex captive accounts at any one time.

Experienced managers can also play a significant part in developing the scope of a captive programme. As Nangy-Kotecha explained “If they demonstrate to the parent that they understand that line of business, know what market rates are and can convince the parent that after analysing the portfolio they are paying a higher premium in the commercial market, then they may well be able to discuss with the parent the possibility of bringing that line into the captive.”

She added that the decision “hinges on underwriting, data and risk management because it is not only about transferring risk to the captive, but captive management needs to be aware of risk mitigation measures that are being taken at the parent to avoid higher claims”. However, with a long-term partner, one with a good view of the wider market, the parent company should be able to rely on its captive manager to help it develop a programme of self-insurance.

Local talent

Parent companies would also do well to consider the strength of local expertise shown by their captive manager, both in their home domicile and in the geographies in which they operate. “It is worth considering how well-known and well-connected a person is in their jurisdiction,” said Sonigo. “Are they active in their local association and how influential have they been in improving the regulation of their domicile?”

Nangy-Kotecha concurred, adding that “Understanding local regulations and tax regimes is crucial to the running of a captive business. It is fundamental that captive managers provide parents with the best information regarding the state of affairs in that domicile.”

Sonigo concluded that parents would do best to consider their captive managers as long-term partners. “By changing manager you lose all that experience. The more they know about you, the more they can advise you in the development of your captive programme,” he said.

“A good manager is about confidence, credibility, confidentiality, quality and trust.”

Nangy-Kotecha advised that parent companies should ask a number of final questions before taking their management decision, namely:

  • Can the captive manager help the parent expand its business?
  • What is its presence in different jurisdictions?
  • What is its reputation in the market?
  • Can the manager provide the parent with updates on insurance and jurisdictions?