What will IFRS 17 mean for Hong Kong insurers?

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This article was first published in the September 2017 China edition of Accounting and Business magazine.

The new insurance contracts standard, IFRS 17, was released in May and brings fundamental changes to insurance accounting in Hong Kong and around the world.

‘The standard is the biggest change for the industry since IFRS first came in,’ says Lars Nielsen, Hong Kong insurance leader at PwC. ‘The old standard was pretty open about what you were able to do; the new one introduces a lot of changes – about the way you look at products, it might have an impact on dividends, an impact on systems. The big impact is not just on core accounting.’

Hong Kong insurers will need to completely overhaul their financial statements and the underlying actuarial models, financial reporting processes and systems. Given the mammoth task, the earlier companies start working on the changes, the better.

‘You have to start doing it now rather than waiting,’ Tze Ping Chng, risk and advisory partner at EY, says. ‘There’s not a whole lot of time and it does take time to prepare.’

EY recently ran an IFRS 17 webcast that was very well attended – of almost 300 participants, 22.5% had already started working on the changes, while 17.4% planned to start in the next three months and 22.5% by the end of the year. The remaining 37.7% planned to start next year or later.

Hong Kong’s unique position makes IFRS 17 implementation particularly tricky. The city is home to the global and regional headquarters of some of the largest insurance groups in Asia, and has a large number of domestic life and non-life insurers. Chng says: ‘Because Hong Kong is such a big and developed market, it has a large mix of companies – from small companies to global players with offices in the US or Europe.’

This diversity will present one of the first challenges. Large insurance groups with HQs in Hong Kong will need to co-ordinate the changes across cultures, languages, time zones, markets and regulatory frameworks.

High on the list of difficulties posed by IFRS 17 is its sheer complexity. Nielsen says: ‘Reading it is one thing, but I can tell you the biggest challenge is trying to implement it. That’s where a lot of the complexity comes out, when you actually try applying some of these concepts.’

So it’s worth remembering that the ultimate aim of IFRS 17 is to achieve consistency and comparability around the world. Chris Hancorn, actuarial services partner at PwC, says: ‘There’s a lot of freedom in the current IFRS, and that freedom creates huge diversity in how insurance companies report and the lack of comparability. The insurance industry has probably suffered as a result of that because investors can’t really compare different insurance companies easily.’

Hancorn says three of the principal changes that underpin the new standard are not common in most companies reporting in Hong Kong and Asia, so there will be major repercussions.

The first key change is the reporting of profit. IFRS 17 will move insurance companies onto a measurement of profit in line with the way services are provided, rather than in terms of revenue or cashflow.

‘That’s an important change,’ Hancorn says. ‘For a start it means that insurance companies can no longer report a day one profit if they believe that economically they have written a profitable contract. The idea is that profit represents what’s been earned in line with services that have been provided in the contract.’

Nielsen agrees: ‘For a place like Hong Kong where P&L is part of the investment component, the top line will look very different because a large chunk of the insurance premiums in Hong Kong are part of this investment component that wouldn’t necessarily be part of the top line going forward.’

Hancorn says that as the P&L will look very different under the new standard, he expects that many insurers will disclose some kind of written premium measure. ‘They believe that a written premium measure is still a measure that’s relevant to give to both analysts and investors, though not necessarily an IFRS measure.’

A second big change will see insurance companies draw up contracts on a current measurement basis, so economic assumptions should use current market values.

‘Discount rates should be based on a starting point of risk-free yield in the market in which the business is written rather than in current reporting for many insurance companies which might use historic assumptions, assumptions on yield that were available when the business was first written,’ Hancorn says.

The third major change is an allowance for risk. Insurance companies are in the business of taking risk, and the International Accounting Standards Board (IASB) is trying to get them to quantify the risk in the contract. There are two types of risk here: that of an investment not doing as well as assumed in the pricing, and risk adjustment.

Hancorn sets out the first type of risk as follows: ‘In many contracts written in Hong Kong the company has given a guaranteed investment return to shareholders, so the risk of that shortfall of investment returns against pricing assumption needs to be reflected in the valuation.’

The second type or risk, from an investor’s point of view, is the potential for claims to be greater than expected. Investors in insurance companies therefore look for compensation for that risk – ie risk adjustment.

For Hong Kong insurance companies, IFRS 17 will mean changes to the current system, processes, calculations and the data stored. These are the big and far-reaching changes, but there’s more. Chng explains: ‘Some of the other subsequent implications will have an impact on the way you do your product design, pricing and development because it has all been split up.’

Hong Kong has a mix of styles of products, which may qualify for different measurement models. This will make comparisons between companies and product lines difficult. All this means that if insurance companies haven’t yet started implementing the changes they had better get on it very soon.

Talent warning

Nielsen says: ‘You might have to change some of your products, and ensure you have the technology, are capturing the right data and have the right people going forward and the right KPIs you are measuring people on.’

Having the right talent could prove a challenge in itself. Nielsen says that as well as IFRS 17, there are upcoming regulatory changes in Hong Kong, Singapore, Thailand and Korea that add up to a serious war for talent. ‘There aren’t enough insurance specialists in Asia to deal with these changes at the same time,’ he warns.

Asia’s standard solution to talent shortage – to import it from Europe – may not work in this case as Europe is also seeing a demand for specialists to negotiate IFRS 17. ‘It’s a global shortage and that makes for quite an interesting dynamic currently,’ Nielsen says.

Kate Whitehead, journalist