Captive formations
Pressing ‘play’ on captive growth
After 2020, as prices rise and coverages become harder to find, the formation and expansion of captives will soon find itself high on the agenda, as companies attempt to navigate the hardening market. Captive International reports.
“The pandemic has created an opportunity to create unique insurance coverages.”
Nick Frost, Davies Group
Bermuda has seen its fair share of captive insurance interest in recent years. However, in 2020 captive formation numbers took a dip with 12 new captives registered in the year, compared with 22 in 2019.
“The uncertainty that COVID-19 brought, in Q1 and Q2 in particular, meant that several clients considering forming a new captive deferred that decision,” says Séadna Kirwan, risk advisory director at Aon Bermuda.
In addition, Kirwan notes that Aon has seen a very significant increase in the use of segregated cells for clients who do not currently have a captive.
“The speed to market and ease of these structures have been very appealing for these clients as they were faced with the hardening market,” he adds.
“A number of those clients who did use a segregated cell in 2020 did so with the express interest of transitioning to a full captive in the coming years.”
Mike Woytowicz, director–business development at Artex Bermuda, says that while there has been a slight decrease in new captives in Bermuda and other domiciles, many new captive formations were already well underway before COVID-19 came into play.
“Most of the existing projects continued but some had minor delays due to employment issues (transition to working from home, etc) and companies needing to focus on other non-captive pandemic issues before they could devote their attention back to the captive startup,” he adds.
Julie Boucher, islands practice leader for Marsh Captive Solutions, has a different perspective.
“For many captive owners and prospective owners, pandemic-related financial pressures have not deterred their captive insurance plans. There are a small number of entities, however, whose underlying business has been impacted by the pandemic. Those business impacts have also affected their captive’s growth,” she says.
Nick Frost, president of captive management at Davies Group, adds that while financial pressures related to the COVID-19 pandemic are holding back growth, in other ways the pandemic has created an opportunity to “create unique insurance coverages to mitigate the exposure of the pandemic in a company’s operations and to allow it to resume operations protected from associated risks by these unique coverages which may not be yet available in the commercial market place”.
“Analysis has led to meaningful work examining the cost of risk to the captive owner.”
Julie Boucher, Marsh Captive Solutions
Supporting your parent
Market conditions are driving not only captive formations across jurisdictions but also captive expansions. “Changes in market conditions are often a major deciding factor for current captive owners, and potential new captive owners, in terms of how they structure or restructure their captive to complement their changing traditional insurance market placements as part of their risk management strategies,” says Woytowicz.
Boucher adds that many Bermuda captives have experienced an increase in the value of exposures covered and in the lines of coverage insured and reinsured.
“Even greater has been the significant increase in analysis regarding how captives could address additional and increased exposures. This analysis has led to meaningful work examining the cost of risk to the captive owner, optimal ways in which to finance that risk, and resources required in order for the captive to cover these exposures,” she says.
At this point, Boucher expects the trends to continue, adding that risk analysis is always a crucial part of a captive’s operations, and expanding that analysis during a more challenging traditional insurance market is wise.
“Utilising a captive to respond to changing market conditions has historically been one of the benefits of captives, and the current market is helping to demonstrate just how important this flexibility is to a captive owner,” she notes.
The benefits and opportunities of a captive are easy to see amid a hardening market.
“The most significant and immediate impact has been seen with existing captives where their ability to step in and support their parent companies in their recent renewals has seen a marked increase in captive utilisation,” adds Kirwan.
Over the last two years, his team has seen captives write significantly increased limits on existing programmes as well as taking on new lines of coverage.
Kirwan explains: “This is not just a response to price pressure from the hardening market. Often sufficient limits and, even in some cases, whole coverages were not being offered by the commercial market.
“The Bermuda Monetary Authority and its framework for approving these material changes to captive insurance business plans have been instrumental in allowing these captives to pivot, at relatively short notice, and support their parents through this challenging market.”
While all captive insurance domiciles are “no doubt busy fielding new captive opportunities”, Bermuda’s speed to market and robust yet pragmatic approach to its regulatory regime perhaps leads companies to select Bermuda over other domiciles, adds Woytowicz.
“While formations from Canada accelerate, many US companies are forming their captives onshore.”
Séadna Kirwan, Aon Bermuda
Here to stay
Whether or not the captives market has been paused on Bermuda, it’s safe to say that it is not closed for business. Hardening market conditions are expected to propel companies towards forming captives and expanding them in the near future.
Kirwan argues the hardening market has led to an uptick in clients understanding that they need an ability to retain more risk.
“I see no reason this trend will not continue, not only as a result of the hardening market but also when we consider how clients are faced with new and evolving forms of volatility and risk, the need for an appropriate risk retention strategy is vital,” he explains.
“As the risk capital of the world, Bermuda is well placed to support clients and their captives in addressing this.”
Currently interest in captives stems from North America, with over half of the formations in 2020 originating from Canada, writing a variety of property and casualty business lines. However, while formations from Canada accelerate, many US companies are forming their captives onshore, says Kirwan.
“We are seeing significant interest from Australia and in particular Canada for captive formations. For the last couple of years, we have seen a number of formations from Canada and that trend, if anything, is accelerating.”
While the uncertainty caused by the COVID-19 pandemic led to a pause on some new formations, he adds, the hardening market means these companies will have to revisit their need to form a captive.
“Captives are a great alternative risk management solution to assist companies with smoothing out potential volatility in market pricing and/or help companies be better positioned to more effectively absorb unexpected market capacity changes,” says Woytowicz.
“A mature captive with a good amount of surplus is easily able to react to these hardening market conditions.” For Frost, the changing market conditions mean that his team are busier now than they have been at any point in their careers, some of which span more than 30 years.
“Markets hardening might mean either or both of two things happening,” he says. “First, market rates start to increase and second, the capacity for coverages starts to decrease. Both can have a profound impact on a company’s insurance strategy of retaining risk versus transferring risk through a commercial insurance policy.
“Captives start to come into play as a means of retaining risk, especially for the ‘best in class’ insureds in a particular insurance market.”
For the top tier insureds, adds Frost, the increases in pricing and reduction in coverages are not due to their own poor performance but the performance of others in their risk group.
“A captive allows them to capture the difference between what they should be paying as a quality risk management organisation and what the market is forcing them to pay for unrelated issues. This recognition of captives as a risk finance tool is making them very popular and this growth will likely continue for the next few years,” he says.
While the hardening market is leading many companies to investigate captives as a means of controlling costs and providing coverages, what Frost has found is that the majority of companies entering the captives space during the hard market stay, even after the market softens.
He concludes: “They come to realise that there is no better way to purchase insurance coverages over the long term than to self-insure frequency risk.”
“A mature captive with a good amount of surplus is easily able to react to these hardening market conditions.”
Mike Woytowicz, Artex Bermuda
