Sub-Saharan Africa’s economy has taken a considerable hit from COVID-19 and the resulting global shutdown, underlining the need for businesses in the region to be able to better manage their risk. Cell captives could offer an attractive solution, say Cenfri’s Matthew Dunn and Jeremy Gray, and Ernie van der Vyver of Clyde & Co.
In sub-Saharan Africa (SSA), where insurance markets were already fragile prior to the outbreak, the COVID-19 crisis and accompanying restrictions are contributing to growing economic uncertainty. That is likely to have substantial impacts on the region’s insurance markets.
In June Cenfri completed “Staying afloat: The sustainability of insurers”, a research project in partnership with FSD Africa, where we interviewed close to 40 insurance market players and regulators across the region. It showed how the pandemic is forcing the digitisation of operations, reducing premium income despite premium increases, impacting on claims and affecting investment returns.
In South Africa the third-party cell captive model has become a preferred vehicle for many insurtechs and other players focusing on innovative product designs.
The research identified challenges in reinsurance markets, whereby insurers are unable to provide business interruption cover for pandemics when it is excluded in their reinsurance treaties. The combination of factors poses long-term risks to the industry that may lead to the consolidation of insurance markets.
For insurance providers and insurance regulators the immediate focus will be on developing a consolidated industry response that mitigates risks for customers and supports ongoing operations. Going forward, however, the disruption to the industry may prompt stakeholders to consider alternative ways of adapting to the ‘new normal’ in a way that builds stronger, more innovative markets.
Cell captives—and third-party cell captives in particular—provide a ready structure for the innovation needed to adapt to this new normal.
Third-party cell captives respond to the COVID-19 challenges on three fronts.
Third-party cell captives allow dynamic and innovative cell owners to operate with the backing and compliance oversight of a licenced insurer. This is an attractive market entry point for innovators in the insurance value chain who want to have autonomy in structuring their offering. It also allows owners to share in the profits of the insurance without the cost and arduous compliance and administrative responsibilities of owning an insurance licence of their own.
In South Africa, where the third-party cell captive model has become mainstream, it has become a preferred vehicle for many insurtechs and other players focusing on innovative product designs.
In the face of COVID-19, providing a ‘home’ for innovators can facilitate the deliberate and widespread introduction of the digitised sales, claims processing and policy management needed to overcome social distancing restrictions. It will further allow the opportunity for innovative product designs to combat the effects of similar crises.
Lower capital entry bar
As economic activity has stalled around the globe, access to capital has become more challenging. For smaller prospective market entrants in Africa, this is likely to further challenge their ability to meet the capital requirements needed to obtain a conventional insurance licence.
Cell captives may enable smaller players to overcome this constraint as they provide an entry route into the insurance market for cell owners at lower minimum capital requirements than a full insurance licence.
Reduce market fragmentation
Several regulators have highlighted concerns around the relatively high number of small insurance players operating in their markets, many of them not viable. Third-party cell captives have the added benefit of supporting consolidation of the insurance market through the use of shared insurance licensing.
COVID-19 is likely to lead to market consolidation through the demise of unsustainable insurers. The cell captive vehicle enables these insurers to continue participation in the market by closing down their existing licences and underwriting business into a cell with a cell captive insurer. This consolidates the number of licensed insurers under the oversight of the regulator.
Filling the gap for specialised risk cover
Apart from highlighting potential use cases for third-party cell captives as a relatively novel construct in Africa, COVID-19 may signal a key value proposition for the more globally recognised first-party model.
The adoption of a cell captive insurance regime in a country would enable corporates to own an insurance cell through which to insure their own operational risks. This arrangement enables them to use their own capital to capitalise the cell and, in return, reap the profits from their own insurance business and tailor the insurance cover to their specific needs.
Our research shows the domestic commercial insurance marketplace in Africa often lacks the capacity or expertise to provide the necessary level of specialised coverage needed by large corporates—including to manage their current pandemic risk.
First-party cell captives have the potential to bridge the protection gap. This arrangement also engages the reinsurer directly for each cell’s needs, thereby avoiding the pitfalls experienced when reinsurance treaties are unable to cover pertinent risks arising.
Growing interest a good sign
So far, the cell captive concept in Africa has largely been confined to South Africa (first and third-party) and Mauritius (first-party), with broader awareness and interest in the model still nascent across the region. More recently, private sector players and regulators across the continent have expressed an interest in better understanding the model. In Kenya, for instance, a number of smaller innovators which are currently limited to more conventional broker or intermediary relationships are exploring the role that a cell captive may play in their operations.
Some regulators also appear to be open to the concept and have been encouraged by the fact the common law systems found in many SSA countries would support the model without major regulatory overhaul. The Insurance Regulatory Authority in Kenya, for example, has been open to engaging in dialogue with prospective cell owners with a view to creating the space to pilot the model.
The National Insurance Commission in Ghana is already in the process of developing a framework for third-party models to operate in the market.
Two of the key elements for launching cell captives in SSA are therefore already in place: potential cell owners ready to leverage the vehicle for innovation, and a regulatory framework that, at a minimum, does not prohibit such a structure. What is needed now are innovative insurers that are willing to work with prospective cell owners and regulators to pilot the model in more African markets.
While delays are naturally expected to arise as private sector players and regulators continue to grapple with the fallout from COVID-19, momentum is clearly with the model and, if anything, the pandemic may serve to further strengthen the case for cell captives across the region.
Matthew Dunn is a senior researcher at Cenfri. He can be contacted at: firstname.lastname@example.org
Jeremy Gray is a senior engagement manager at Cenfri. He can be contacted at: email@example.com
Ernie van der Vyver is a corporate insurance partner at Clyde & Co. He can be contacted at: firstname.lastname@example.org
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