final draft report_14 sept

8/8/2019 Final Draft Report_14 Sept

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Indian Insurance

Sector:Stepping into the seconddecade of growth

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Foreword

The insurance industry in India has progressed significantly over the last ten years, which is

amply evident in the tremendous growth in insurance business, extended outreach,

increased number of players, product innovation as well as enhanced regulatory framework.

A combination of these factors along with strong economic growth in the last few years has

positioned India as a regional insurance hub and a rapidly developing financial center.

The insurance industry is at the brink of an exciting journey there needs to be a persistent

endeavor to sustain what has already been achieved as well as expand beyond the current

level. Furthermore, several reforms and policy measures, especially during the last couple of

years, has enabled a conducive environment for insurance companies to flourish in the

country. The coming years are critical as the regulator stance and approach of market

participants will govern the strength, stability and the sustained growth of the insurance

sector.

The insurance sector has become a major contributor to economic development especially

to infrastructure development. This growth has been fueled by Indias multiplying consumer

class, rising insurance awareness, increasing domestic savings and investments. Moreover,

it has been the joint effort of all the stakeholders, including the government, regulator and

the insurance companies to enable the positive momentum of this industry. However, still

there is a long way to cover on the road to achieve financial inclusion and bring more and

more people under the insurance blanket.

To this end, the Confederation of Indian Industry (CII) and Ernst & Young have authored this

report to evaluate the current state of the insurance industry, implication of new regulationsand what steps can be taken to improve insurance penetration.

Ashvin ParekhPartner & National Industry Leader, Financial ServicesErnst & Young Private Limited

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Executive summary

Indias rapid rate of economic growth over the past decade has been one of the more

significant developments in the global economy. This growth has its roots in the introduction

of economic liberalization in the early 1990s, which has allowed India to exploit its economicpotential and raise the standard of living.

Together with other financial services, insurance services add about 7% to the countrys

GDP in 2009. A well-developed and evolved insurance sector is a boon for economic

development as it provides long-term funds for infrastructure development at the same time

strengthening the risk taking ability of the country. Also insurance has been an employment

generator, not only for the insurance industry, but has also created demand for a range of

associated professionals, such as brokers, insurance advisors, agents, underwriters, claims

managers and actuaries.

By nature of its business, insurance is closely related to saving and investing. Life insurance,

funded pension systems and non-life insurance, accumulate huge amounts of capital over

time which can be invested productively in the economy. The mutual dependence of

insurance and capital markets can play a powerful role in channeling funds and investment

expertise to support the development of the Indian economy.

Indias growing consumer class, rising insurance awareness, increasing domestic savings

and investments have increased insurance penetration. However, there are large untapped

areas which are hidden from the benefits of insurance. Imparting financial literacy, ensuring

Indian households transfer savings from physical assets to financial assets and taking

distribution network to rural areas will help bringing more and more people under the

insurance umbrella. While India has a higher insurance penetration as compared to China

and Brazil, it still has a long way to go.

The insurance industry in India has come a long way since the time when businesses were

tightly regulated and concentrated in the hands of a few public sector insurers. Following the

passage of the Insurance Regulatory and Development Authority Act in 1999, India

abandoned public sector exclusivity in the insurance industry in favour of market-driven

competition. This shift has brought about major changes to the industry. The inauguration of

a new era of insurance development has seen the entry of international insurers, the

proliferation of innovative products and distribution channels, and the raising of supervision

standards.

The period post sector liberalisation, which we call Phase I, has witnessed a unprecedentedsurge in sales of insurance products, with the industry recording 24.2% CAGR in annualized

premium equivalent over FY00-05. The insurance industry, in its first phase of development,

has been relying on regular capital infusions from the promoters as its lifeline. High new

business strain and expanding distribution networks resulted in accounting losses across the

industry. In order to meet their commitments towards claim settlement and reserve

creation, promoters have been pumping in additional capital resulting in cash-burn. The

tradeoff between growth and profitability was heavily inclined towards the former.

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The next 4-5 years can be termed as Phase II which saw players focus on expanding product

range, developing innovative products and building robust distribution channel. During this

period i.e. FY05-09, the industry grew at a CAGR of 25.9%. Insurers were shifting weight

from the Phase I philosophy of growth versus profitability to the Phase II mantra of

profitable growth. As a result, focus is likely to swing from growth to profitability, with

product pricing becoming more rational based on more conservative assumptions. Product

innovation continued and traditional policies gained some foothold in an otherwise Unit

linked incentive product (ULIP) driven market.

The Indian life insurance industry stands at the cusp of its Phase III of growth. The phase is

marked by bringing the industry to a stable position, ensuring stable profitable growth.

Most large players will now look to slow down distribution growth and increase focus on

retention of channel partners as well as improving channel productivity. Further, insurance

companies are working towards improving persistency.

At this cross section, the role of the regulator is going to be critical. Insurance Regulatory

and Development Authority (IRDA) is in the finalization stage of most of the regulations,

which would shape the future of the insurance industry. IRDA has come up with someregulations to help improve disclosures, profitability, capital, consumer protection etc.

Further, the regulator is amidst finalizing the norms for initial public offering (IPO) of

insurance companies. In a sector where none of the players are listed, IPO of insurance

companies could be a milestone in the future growth of the sector.

Risk management plays a very critical role in insurance business. In the next 3-4 years, India

plans to shift from the current solvency I norms to risk-based solvency norms, called the

solvency II model. This change will result in better apportionment of risk in the backdrop of

the actual risk associated with the asset.

With the increasing competition, the industry may also witness the consolidation amongsmaller players and emergence of some big players. The regulator is in the process of

finalizing guidelines for merger and acquisition in the insurance space in India. The

government, regulator and the insurance companies are now focused on maintaining a

conducive environment for sustainable growth, higher contribution of the industry to

economic development and increasing reach of insurance to the underdeveloped areas of

the country.

To summarize, Indian insurance industry is poised for a quantum leap in performance with

unprecedented growth opportunities, notwithstanding temporary sliding growth curve. The

stage is all set for the real show to begin now!

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Table of content

Introduction ..............................................................................7

Section I: Industry overview .......................................................8

Evolution of the Industry..............................................................................8

Present state ............................................................................................10

Life insurance industry overview .............................................................................11

Non-life insurance industry overview........................................................................12

Growth drivers ..........................................................................................13

Emerging trends........................................................................................15

Contribution of the insurance sector to the economy...................................17

Contribution of insurance to infrastructure...............................................................18

Contribution of insurance to FDI...............................................................................19

Contribution of insurance to offshoring business......................................................19

Contribution of insurance to employment................................................................21

Section II: Industry at the cross-road for development ..............23

Insurance industry significantly untapped with huge potential.................23

Recent regulatory developments that have governed the current market state

.................................................................................................................26

New disclosure norms...............................................................................................27

Altered commission structure of agents...................................................................28

IPO norms for insurance company............................................................................29

Promoting health insurance......................................................................................29

Alteration in ULIPs...................................................................................................30

Other regulations......................................................................................................31

Section III: Critical factors for market development.....................32

Distribution channel...................................................................................32

Role of intermediaries/distributors/financial advisors...............................................32Challenges with the existing distribution model.......................................................38

Experiences from developed insurance markets worldwide.....................................39

Focus on financial inclusion........................................................................42

Need to increase financial inclusion in India.............................................................43

Measures to increase financial inclusion in India......................................................44

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Consumer needs and preferences ..............................................................46

Way forward.............................................................................47

Bibliography.............................................................................50

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IntroductionInsurance industry in India has completed an era of ten eventful years since the industrywas opened up for private sector in 2000. India has witnessed a rapid economic growth over

the past decade which has its roots in the introduction of economic liberalization in the early

1990s. This turn of events has allowed India to exploit its economic potential and raise the

populations standard of living.

The Insurance sector plays an important role in the economic development of a nation. It

acts as a mobilizer of savings, financial intermediary, and promoter of investment activities,

stabilizer of financial markets and a risk manager. Life insurance sector plays an important

role in providing risk cover, investment and tax planning for individuals; non-life insurance

industry provides risk cover for assets. Health insurance and pension systems are

fundamental to protecting individuals against the hazards of life and India, as the second

most populous nation in the world, offers huge potential for that type of cover. Furthermore,

fire and liability insurance are essential for corporations to keep investment risks and

infrastructure projects under safeguard. Private insurance systems complement social

security systems and add value by matching risk with price. Accurate risk pricing is one of

the most powerful tools for setting the right incentives for the allocation of resources, a

feature which is the key to a fast developing country like India.

By nature of its business, insurance is closely related to savings and investing. Life

insurance, funded pension systems and to a lesser extent non-life insurance, will accumulate

huge amounts of capital over time which can be invested productively in the economy.

There are good reasons to expect that the growth momentum can be sustained. Inparticular, there is huge untapped potential in various segments of the market. While the

nation is heavily exposed to natural catastrophes, insurance to mitigate the negative

financial consequences of these adverse events is underdeveloped. The same is true for

both pension and health insurance, where insurers can play a critical role in bridging

demand and supply gaps. Major changes in both national economic policies and insurance

regulations will highlight the prospects of these segments going forward.

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Section I: Industry overview

The insurance industry in India has come a long way since the time when businesses weretightly regulated and concentrated in the hands of a few public sector insurers. Following the

passage of the Insurance Regulatory and Development Authority Act in 1999, India

abandoned public sector exclusivity in the insurance industry in favour of market-driven

competition. This shift has brought about major changes to the industry. The beginning of a

new era of insurance development has seen the entry of international insurers, the

proliferation of innovative products and distribution channels, and the raising of supervisory

standards.

Evolution of the Industry

The growing demand for insurance around the world is having a positive effect on the

insurance industry across all economies. India being one of the fastest growing economy

(even in the current global economic slowdown), has exhibited significant increase in its

Gross Domestic Product (GDP), even larger increase in GDP per capita and disposable

income. Increasing disposable income coupled with the high potential demand for insurance

offerings, has opened many doors for both domestic and foreign insurers. The following

table briefly depicts the evolution of the insurance sector in India.

Evolution of the Industry

Year Event

1818 Oriental Life Insurance Co. was established in Calcutta

1870 The Bombay Mutual Life Insurance Society first insurance company formed

1907 Indian Mercantile Insurance Limited was formed

1912 - Life Insurance Companies Act & Pension Fund Act of 1912

- Beginning of formal insurance regulations

1928 Indian Insurance Companies Act was passed to collect statistical data on both life

and non-life

1938 Insurance act of 1938 passed. Strict state supervision to control frauds

1956 - 245 Indian and foreign life insurers as well as provident societies taken over by

central government and nationalized

- LIC act of 1956 passed

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1957 Framing of a code of conduct by the General Insurance Council to ensure fair

conduct and ethical business practices

1972 General Insurance Business (Nationalization) Act was passed

1991 Beginning of economic liberalization

1993

Malhotra Committee set up to complement the reforms initiated in the financial

sector

1994 Detariffication of aviation, liability, personal accidents and health and marine

cargo products

1999 Insurance Regulatory and Development Authority (IRDA) bill passed in Parliament

2000 IRDA incorporated as the statutory body to regulate and register private sector

insurance companies.

General Insurance Corporation (GIC) and its four subsidiaries, i.e., National

Insurance Company Ltd, Oriental Insurance Company Ltd, New India Assurance

Company Ltd and United India Assurance Company Ltd made India's nationalreinsurer

2005 Detariffication of marine hull

2006 Relaxation of foreign equity norms thus facilitating entry of new players

2007 Detariffication of all non-life insurance products except of the auto third-party

liability segment

In India, the Ministry of Finance is responsible for enacting and implementing legislations for

the insurance sector with Insurance Regulatory and Development Authority (IRDA) entitledwith the regulatory and developmental role. The government also owns majority share in

some major companies in both life and non-life insurance segments. The following diagram

depicts the industry structure.

Indian insurance industry structure

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Source: IRDA

Both the life and non-life insurance sectors in India, which were nationalized in the 1950s

and 1960s, respectively, were liberalized in the 1990s. Since the formation of IRDA and

opening up of the insurance sector to private players in 2000, the Indian insurance sector

has seen rapid growth.

Present state

A growing middle-class segment, rising income, increasing insurance awareness and

increased investments and infrastructure spending, have laid a strong foundation to extend

insurance services in India. The total premium of the insurance industry has grown at a

CAGR of 24.6% between FY03 and FY09 to touch INR2,523.9 billion in FY09.

Figure: Total premiums of the insurance industry (life and non-life)

Source: IRDA

The opening up of the insurance sector for private participation/global players during the

1990s has generated stiff competition among the players, with each offering better quality

products. This has certainly offered consumers the choice to buy a product that best fits his

or her requirements.

The number of players during the decade has increased from four and eight in life and non-life insurance respectively in 2000 to 23 in life and 24 in non-life insurance (including 1 in

reinsurance) industry as on August 2010.

Table: Growth in the number of insurance players

Life insurers 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

Public 1 1 1 1 1 1 1 1 1 1 1

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Private 3 10 12 12 13 13 15 15 21 21 22

Non-life Insurers

Public 4 4 5 6 6 6 6 6 6 6 6

Private 3 6 8 8 8 8 9 10 15 15 17

Reinsurer 1 1 1 1 1 1 1 1 1 1 1

Source: IRDA

Most of the private players in the Indian insurance industry are a joint venture between a

dominant Indian company and a foreign insurer.

Life insurance industry overview

The life insurance sector grew at an impressive CAGR of 25.8% between FY03 and FY09 and

the number of policies issued increased at a CAGR of 12.3% during the same period.

As of August 2010, there were 23 players in the sector (1 public and 22 private). Life

Insurance Corporation of India (LIC) is the only public sector player, and held almost 65% of

the market share in FY10 (based on first year premium).

In order to cater to the need for having highly customized products and prompt service, a

large number of private sector players have entered the market. Innovative products,

aggressive marketing and effective distribution have enabled fledgling private insurance

companies to sign up Indian customers more rapidly than expected. Private sector players

are expected to play a larger role in the growth of the insurance sector in the near future.

In a fragmented industry, new players are eating away the market share of larger players.

The existing smaller players have aggressive plans for network expansion as their foreign

partners are keen to take advantage of the enormous potential presented by the Indian life

insurance market.

Figure: Market share amongst private players - FY10 (based on first yearpremiums)

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16.5%

18.3%

11.6%

10.2%

7.7%

8.5%

4.8%

3.5%3.4%2.8%4.0%

8.6%

Market shareamongst privateplayers- FY10 ( basedon firstyear premiums)

ICICI Pru SBI Lie Bajaj A ianz ReianceLie

ra un e anar oa a nra


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Source: IRDA annual report FY09, IRDA Journal, Insurance Regulatory and Development Authority website,

www.irdaindia.org, accessed 26 May 2010

ICICI Prudential, Bajaj Allianz and SBI Life hold almost 50% of the market share in the private

life insurance segment. To tap opportunity, banks have also started entering alliances with

insurance companies to develop/underwrite insurance products rather than merely

distribute them.

Non-life insurance industry overview

Between FY03 and FY10, the non-life insurance sector grew at a CAGR of 17.05%. Intense

competition that followed the de-tariffication and pricing deregulation (which was started

during FY07) caused the growth momentum to slow down.

As of August 2010, the sector had a total of 24 players (6 public,17 private and 1 re-insurer).

The non-life insurance sector offers products, such as auto insurance, health insurance, fire

insurance, marine insurance etc. In FY10, the non-life insurance industry had the following

product mix.

Figure: Product mix (FY10)

Source: IRDA Monthly Journal, Insurance Regulatory and Development Authority website, www.irdaindia.org,

accessed 10 June 2010

The focus of the private sector players has been on auto and health insurance. Out of the

total non-life insurance premiums during FY10, auto insurance accounted for 43.5% of the

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Fire, 11.3

Marine , 6 .

Engineering, 4.

Auto, 43.5

Health, 20.

Aviation, 1.2

Liability, 2.

PersonalAccidents, 2.5

All Others, 7.

Productmix ( F


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market share. The health insurance segment has shown highest growth, with its share in

total non-life insurance portfolio increasing from 12.8% in FY07 to 20.8% in FY10. These two

sectors are highly promising, and are expected to increase their share manifold in the

coming years.

With the sector poised for immense growth, more players, including monoline players are

likely to emerge in the near future. Last two years has seen the emergence of companiesspecializing in health insurance, such as Star Health & Allied Insurance and Apollo DKV.

Figure: Market share amongst players in FY10

Source: IRDA annual report FY09, IRDA Journal, Insurance Regulatory and Development Authority website,

www.irdaindia.org, accessed 26 May 2010

In the last decade, it was observed that most players have experienced growth by

formulating aggressive growth strategies and capitalizing on their distribution network to

target the retail segment. Although the players in the private and public sector largely offer

similar products in the non-life insurance segment, private sector players outscore their

public sector counterparts in their quality of service.

Growth drivers

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15.7%

13.6%

12.4%

12.1%

8.6%

7.9%

6.6%

5.2%4.3%4.0%

2.6%2.4%

2.4%

2.3%

Market share amongst players- FY10

ew n n e n rena a ona

- omar er aa an e ance ene

- o o ar ea e nsur ene

oya unara aa-


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India has favourable demographics to increase penetrationLife insurance coverage in India is very low and many insured are underinsured. There is a

huge potential as in the next 20 years (20062026), the working population (2560 years) is

expected to increase from 675.8 million to 795.5 million. Projected per capita GDP is

expected to increase from INR18,280 in FY01 to INR100,680 in 2026, reflecting larger

disposable income. Demand for insurance products is expected to increase in the light ofincrease in purchasing power.

Figure: Working population assessment and GDP per capita till 2026

Source: CMIE, Census of India 2001

Health Insurance is attracting insurance companies

The Indian health insurance industry was valued at INR51.2 billion as of FY10. From the

period FY0310, the industry has grown at a CAGR of 32.59%. Share of health insurance was

20.8% of the total non-life insurance premium in FY10. Health insurance premiums areexpected to increase to INR300 billion by 2015.

Private sector insurers are more aggressive in this segment. Favorable demographics, fast

progression of medical technology as well as increasing demand for better healthcare has

facilitated growth in health insurance. Life insurance companies are likely to target primarily

the young population so that they can amortize the risk over the policy term.

Increasing focus on rural market

Since more than two-thirds of Indias population lives in rural areas, micro-insurance is seen

as the most suitable aid to reach the poor and socially disadvantaged sections of society.

Poor insurance literacy and awareness, high transaction costs, inadequateregulations, and inadequate understanding of client needs and expectations hasrestricted demand for microinsurance products. However, the market remainssignificantly underserved, creating a vast opportunity to reach a large number ofcustomers with good value insurance, whether from the base of existing insurersor through retail distribution networks.

In FY09, individuals generated new business premium of INR365.7 million under2.15 million policies, the group business amounted to INR2,059.5 million under

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0

20

40

60

80

100

120

0

100

200

300

400

500

600

700

800

2001 2006 2011 2016 2021 2026

Inmillion

25-60 in mil lions Pro ected GDP er ca ita in '000s


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126 million lives. LIC contributed most of the business procured in this portfolio bygarnering INR311.9 million of individual premium from 1.54 million lives andINR1,726.9 million of group premium under 11.1 million lives.

LIC was the first player to offer specialized products with lower premium cost forrural population. Other private players have also started focussing on the rural

market to increase penetration and reach.

Government tax incentives

Currently insurance products enjoy EEE benefit giving insurance products an advantage over

mutual funds. Insurers are motivated to purchase insurance products to get about 30%

effective tax benefit on select investments (including life insurance premiums) made every

financial year. Life insurance is already the most popular financial product among Indians

because of the tax benefits and income protection it offers in a country where there is very

little social security. This drives more and more people to come under the insurance

umbrella.

Emerging trends

Exploring multiple distribution channels for insurance products

To increase penetration, insurance companies have a task to expand their distribution

network. In the recent past, the industry has witnessed an emergence of alternate

distribution channels, which include bancassurance, direct selling agents, brokers, online

distribution, corporate agents such as non-banking financial companies (NBFCs) and tie-ups

of para-banking companies with local corporate agencies (e.g. NGOs) in remote areas.

Agency has been the most important channel of distribution till now. The industry is viewing

movement of intermediaries from mere agents to advisors.

Product innovation

With customers asking for higher levels of customization, product innovation is one of the

best strategies for companies to increase market share. This also creates greater efficiency

as companies can maintain lower unit costs, offer improved services and distributors can

increase flexibility to pay higher commissions and generate higher sales.

The pension sector, due to its inadequate penetration (only 10% of the working population is

covered) offers tremendous potential for insurance companies to be more innovative.

Consolidation in future

The past few years have witnessed the entry of many companies in the domestic insurance

industry, attracted by the huge potential of insurance sector. However, increasing

competition in easily accessible urban areas, FDI limit of 26% and the recent downturn in

equity markets have impacted the growth prospects for some small private insurance

companies more than for others.

Such players might have to rethink about their future growth plans. Hence, consolidation

with big and established players might prove to be a better solution for such small insurers.

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Larger companies would also prefer to take over or merge with other companies with

established networks and avoid spending money in marketing and promotion. Therefore,

consolidation will lead to fewer but stronger players in the country and also generate

healthy competition.

Mounting focus on EV over profitability

Many companies are achieving profitability by controlling expenses; releasing funds for

future appropriations and through strong renewal premium build up. As a few larger insurers

continued to expand, most focused on cost rationalization and aligning business models to

ground level realities. This will help them enhance insurers ability to realize reported

embedded value (EV) and generate value from future new business.

In the short run, companies are going to face challenge to meet the desired levels of

profitability. As companies are also planning to get listed and raise funds, higher profitability

will help companies to get better valuation of shares. However, in the long run, companies

would need to focus on increasing EV, as almost 70% of a companys EV is influenced by

new business and profitability is not as much of an indicator for valuation. Hence, companies

are now focusing on increasing their EV than profitability figures.

Rising capital requirement

Insurance being a capital intensive industry, capital requirements are likely to increase in the

coming period. Capital requirement in the life insurance business is a function of three

factors: (1) sum at risk; (2) policyholders assets; (3) new business strain and expense

overruns. With new guidelines in place, capital requirements across the sector are likely to

go up due to:

Higher sum assured driving sum at risk. Greater allocation to policyholders assets due to lower charges. Back loading resulting in high new business strain, and expense overruns due to

low productivity of newly set distribution network (and inability to recover

corresponding costs upfront).

For non-life insurance companies, growing demand of health insurance products as well as

motor insurance products is likely to boost capital requirement.

With the capital market picking up and valuations on the rise, insurance companies are

looking at different ways of increasing their capital base to invest in product innovation,

introducing new distribution channels, educating customers, developing brand etc.

This is due to the following reasons

A major portion of the costs in insurance companies is fixed (though it should bevariable or semi-variable in nature). Hence reduction in sales will not result inlowering of operational expense, thus impacting margins. Reduced margins wouldimpact profitability and hence insurers would need to invest more funds.

Sustained bearishness in capital markets could further pressurize the investmentmargins and increase the capital strain especially in the case of capital/returnguarantee product.

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Besides this, companies are likely to witness a sharp slowdown in new businessgrowth. Companies would also look at product structuring to lower their cost andoptimally utilize capital.

According to IRDA Regulations 2000, all insurance companies are required to maintain a

solvency ratio of 1.5 at all times. But this solvency margin is not sustainable. With the

growing market risks, the level of required capital will be linked with the risks inherent in theunderlying business. India is likely to start implementing Solvency II norms in the next three

to four years.

The transition from Solvency I norms to Solvency II norms by 2012 is going to increase the

demand for actuaries and risk management professionals. The regulator has also asked

insurance companies to get their risk management systems and processes audited every

three years by an external auditor. Many insurance companies have started aligning

themselves with the new norms and hiring professionals to meet the deadline.

Contribution of the insurance sector to the economy

Insurance has had a very positive impact on Indias economic development. The sector is

slowly increasing its contribution to the GDP. Also, insurance is driving the infrastructure

sector by increasing investments each year. Moreover, insurance has boosted the

employment scenario in India by providing direct as well as indirect employment

opportunities.

Due to healthy performance of the Indian economy, the share of life insurance premiums in

Gross Domestic Savings (GDS) of the households sector has increased.

Figure: Share of life insurance premiums in GDS (household sector)

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Source: IRDA, National Income Statistics, July 2010, CMIE

This increased contribution of insurance industry from the household GDS has been

ploughed back into the economy, generating higher growth. The following factors showcase

the contribution of insurance industry to economic growth:

Contribution of insurance to infrastructure

Generally, countries with strong insurance industries have robust infrastructure and strong

capital formation. Insurance generates long-term capital, which is required to build

infrastructure projects that have long gestation period. At the same time, insurance protect

individuals and businesses from sudden unfavorable events, which in turn leads to a better

living standard. A well-developed and evolved insurance sector is needed for economic

development as it provides long term funds for infrastructure development and at the sametime strengthens the risk taking ability.

Although the insurance sector is relatively young in India, its contribution to infrastructural

development has been increasing as depicted in the following table.

Table: Contribution of various insurance products to infrastructure (in INR billion)

FY06 FY07 FY08 FY09

Investments from traditional products

Approved securities including Central Govt.

securities 3,131 3,541 4,013 4,439

Infrastructure and social sector 546 759 763 756

Investment subject to exposure norms

including other than approved investments 1,327 1,538 2,035 2,787

Housing and fire fighting equipments 31 37 39 42

Unit linked insurance product funds

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11.0%12.3%

15.9%17.9% 17.6%

0%

5%

10%

15%

20%

FY05 FY06 FY07 FY08 FY09

Share of life insurance premiums in GDS (households sector)


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(ULIPs)

Approved investments 234 576 1,115 1,515

Other than approved investments 25 95 219 213

Source: IRDA annual report FY09, Insurance Regulatory and Development Authority website, www.irdaindia.org,

accessed 20 August 2010

As on FY09, the total investments by the insurance industry have grown to INR9,742 billion

as against INR8,183 billion in the previous year. Investments by both the life and non-life

insurers increased by 20.2% and 4.6% to INR9,163 billion and INR589 billion, respectively, in

FY09.

However, there is a huge fund requirement of INR 20,562 billion as laid in the 11th five-year

plan (2008-2012) in the infrastructure sector. Given an expected robust increase in

insurance business and increasing participation of foreign insurers in India, insurance

companies are well positioned to contribute to the infrastructure development in the

country.

These investments could further increase with the development of sound debt markets,

especially the market for long-term government paper, and income tax incentives to attract

savings for infrastructural schemes. Direct investment of policyholder funds of life insurers in

government bonds is another way in which the industry has helped the development of

infrastructure. Also IRDAs mandate for insurance companies to invest 15% of their annual

sales in infrastructure is going to boost capital requirement.

Contribution of insurance to FDI

The importance of FDI in the development of a capital-starved country like India cannot be

undermined. This is where the high growth sectors of an economy play an important role by

attracting substantial foreign investments. Presently, the total FDI in the insurance sector

was INR 50.3 billion at the end of FY09 and is estimated to be approximately INR 51 billion in

FY10. It is difficult to estimate but roughly an equal amount of additional foreign investment

can flow into the sector if government hikes the FDI limit from 26% to 49%.

Insurance sector, by its virtue of attracting long-term funds, is best placed to channelize

long-term funds towards productive sectors of the economy. Therefore, growth in their

premium collections would translate into higher investments in other key sectors of the

economy. Therefore, liberalization of the FDI norms for insurance would not only benefit the

sector, but several other critical sectors of the economy.

Contribution of insurance to offshoring business

India has become one of the most popular destinations for offshoring insurance processes

and top insurance companies in the US and Europe has moved their processes either to their

captive units or third-party outsourcing firms. Currently around 63% of Indias insurance

outsourcing revenue comes from the US and around 22% from EMEA.

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India offers varied insurance solutions dealing with health, property, life, annuities,

reinsurance and property and casualty amongst others. The following is a list of insurance

services that are outsourced to India.

Figure: Insurance services suite

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Source:Infosys

Total revenue from Indian offshore insurance business process outsourcing services

increased from US$367 million in FY03 to US$790 million in FY07 and is expected to touch

US$2 billion by FY10. Increased business will also result in increased employment

opportunities in the insurance offshoring business.

Contribution of insurance to employment

Insurance helps create both direct and indirect employment in an economy. Alongside the

regular jobs in insurance, there is always demand for a range of associated professionals,

such as brokers, insurance advisors, agents, underwriters, claims managers and actuaries.Increasing insurance business has increased the demand for highly skilled professionals as

well as semi-skilled and unskilled people. For example, life insurance has provided direct

employment to 30,912 people besides adding more than 407,768 individual agents during

FY09.

Table: Growing employment in life insurance industry

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Parameter FY00 FY06 FY07 FY08 FY09

Direct

employees

1,23,000 1,52,449 1,87,403 2,54,332 2,85,244

Individual

agents

7,14,000 14,22,609 19,85,457 24,98,513 29,06,281

Source: Life Insurance Council of India

IRDA has mandated the appointment of actuary in all insurance companies and ensuring

certification of all products before launch. The insurance regulator has also made

compulsory for the appointed actuaries be called to all board meetings and help the insurer

ensure solvency at all points in time.

In order to ensure continued growth, the need of the hour is trained manpower with

specialized knowledge about this industry. Insurances companies need to invest in

professional training of their employees, especially for subjects such as underwriting, claims

and risk management.

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Section II: Industry at the cross-road for development

Insurance industry significantly untapped with hugepotential

Indias insurance industry has witnessed rapid growth during the last decade. Consequently,

many foreign companies have shown an interest in investing in domestic insurance

companies, in spite of the Government of Indias regulation, which mandates that the

foreign shareholding limit is fixed at 26% for the life as well as non-life insurance sectors.

The countrys strong economic growth in recent years has helped increase penetration

levels substantially. Premium income, as a percentage of GDP, increased from 3.3% in FY03

to 7.6% in FY09. However, penetration of insurance in India still continues to be low, as

compared to other developed and developing economies.

Figure: Insurance premiums as a % of GDP

Source: IRDA annual report FY03-09, Insurance Regulatory and Development Authority website,

www.irdaindia.org, accessed August 2010; CMIE

The Indian life insurance sector has seen tremendous growth, driven by innovation in

product offerings and distribution owing to new entrants since the opening up of the sectorin 2000. At present, it is the fifth largest life insurance market in Asia. Rapid expansion in

the life sector has coincided with a period of rising household savings and a growing middle

class on the back of strong economic growth. Innovative product design (e.g. launch of

ULIPs) and aggressive distribution strategies (e.g. development of bancassurance) by

private sector players have assisted the favourable economy in boosting premium growth.

The following diagram shows the increasing premium per capital during the same period.

23

0.6 0.7 0.7 0.80.9

0.9

2.7 3.03.5

4.1

5.56.4

3.3 3.74.2

4.8

6.37.3

012

345678

FY03 FY04 FY05 FY06 FY07 FY08 FY0

Inpercentage

Insurance premiums as a %of GDP

on- e nsurancepremumconr uonas a o e nsurance premumconr uonas a o

oa nsurance premumconr uonas a o


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Figure: Per capita insurance premium

Source: IRDA annual report FY03-09, Insurance Regulatory and Development Authority website,

www.irdaindia.org, accessed August 2010; CMIE

The global economy has slowly started recovering from the economic recession. Lagging

employment coupled with falling aggregate wages, a weakened residential and commercial

real estate market, tight credit and a behavioral shift on the part of consumers from

consumption to savings are factors contributing to a delayed recovery. Although the global

insurance industry has not been impacted by the financial crisis as much as the banks, it still

has its set of issues. The top five issues on the global insurance watch list are:

Manage risk: The most significant concern for insurance companies is risk in all itsforms. Increasingly, insurance companies are adopting an enterprise-wide view of

managing risks employing a framework to address them across the organization.

Promote compliance: The cost of regulatory compliance and the attendant

reputational risk of non-compliance are growing.

Grow globally: Expansion into new markets will help drive profits, as developed

economies witness slower growth in demand for insurance.

Lack of innovation around products and delivery: The use of technology and

emphasis on innovation will help provide better service and delivery. Institutions can

also strengthen their ties with customers and differentiate themselves from thecompetition.

Adapt to demographic shifts: The demographic changes in North America,

Europe, Japan and other areas is starting to shift assets from equities to annuities

and other fixed-income products.

24

109.5 147.8 166.6 193.7237.0 244.5 2528.4

628.3785.4 1003.6

1479.11769.3

637.9776.1 952.0

1197.2

1716.12013.8

0

500

1,000

1,500

2,0002,500

FY03 FY04 FY05 FY06 FY07 FY08 FY0

Per capitainsurancepremium( INR)

Non- ieinsurancepremiumper capita Lieinsurancepremiumper capita

oa nsurancepremumper capa


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Table: Global comparison of insurance premiums, penetration and density for

both life and non-life segments

Non-life premiums In 2009 Life premiums In 2009

Country

Premiums, US$million

Penetration, % ofGDP

Density, US$percapita

Premiums, US$million

Penetration, % ofGDP

Density, US$percapita

Developed

Australia 27,849 3 1,308.0 32,468 3.4 1,524.8

France 88993 3.1 1,289.4 194077 7.2 2,979.8

Germany 126,591 3.7 1,518.7 111,776 3.3 1,359.7

Singapore 5,188 1.7 645.6 9,057 5.1 1,912.0

South Korea 34,527 3.9 709.7 57,436 6.5 1,180.6

United Kingdom 91,560 3 1,051.2 217,681 10 3,527.6

United ArabEmirates 4,381 2.1 952.7 732 0.4 159.2

United States 647,401 4.5 2,107.3 492,345 3.5 1,602.6

Developing

Bangladesh 205 0.2 1.3 636 0.7 3.9

Brazil 23,979 1.5 123.8 24,781 1.6 127.9

China 53,872 1.1 40 109,175 2.3 81.1

India 6,375 0.9 6.7 46,206 6.6 48.1

Indonesia 2,219 0.4 9.6 5,066 0.9 22

Malaysia 3,158 1.6 115 5,682 2.9 206.9

Mexico 9,664 1.1 88.2 7,688 0.9 70.1

Pakistan 650 0.4 3.6 543 0.3 3Philippines 835 0.5 9.1 1,563 1 17

Romania 2,365 1.4 111.2 533 0.3 25.1

Russia 38,940 2.4 276.4 636 0 4.5

South Africa 8,215 2.9 163.9 28,773 10 574.2

Sri Lanka 358 0.9 17.7 238 0.6 11.8

Taiwan 11,443 3 494.8 52,204 13.8 2,257.3

Thailand 4,248 1.6 62.7 6,212 2.4 91.7

Vietnam 769 0.8 8.7 671 0.7 7.6Source: World Insurance in 2009, Swiss Re, June 2010, Insurance Regulatory and Development Authority website,

www.irdaindia.org, accessed 06 January 2010

According to Swiss Re, among the key Asian markets, India is likely to have the fastestgrowing life insurance market, with life premium CAGR of 15% for the next decade, slightly

faster than the 14% expected for China. Growing consumer class, rising insurance

awareness and greater infrastructure spending have made India and China the two most

promising markets in Asia. Europe and the Americas represent relatively mature insurance

markets.

Though Indias penetration appears higher, it is not excessive, given high level of

investment in insurance policies underwritten. Nonetheless, besides India, Taiwan is the

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other Asian market that shares similar characteristics. Taiwan has the highest insurance

penetration in Asia, largely driven by the huge popularity of ULIPs.

The Indian insurance industry has come a long way. The last 10 years have been the most

crucial period in the establishment of this industry post formation of IRDA in 2000. The initial

4-5 years saw the entry of many private players, each trying to buy market share. The next

4-5 years were focussed on expanding product range, developing innovative products andbuilding robust distribution channel. The last 1-2 have been very critical as the industry is

trying to sustain its growth in light of new regulations being formulated.

The Indian insurance industry is at a threshold from where it can witness the next growth

wave, if presented with a favourable policy framework and conducive distribution

environment. The industry is going to witness the emergence of new leaders who would

make place for themselves by using instruments such as alternative channels of distribution,

cost management, product innovation etc.

At this cross section, the role of the regulator is very significant. IRDA is in the finalization

stage of most of the regulations pertaining to the industry. The regulator has come up with

some regulations to help improve disclosures, profitability, capital, consumer protection etc.

Recent regulatory developments that have governed the

current market state

The development of the insurance industry in India, as in other international markets, is

likely to be critically dependent on the nature and quality of regulation. The role of the

regulator in most markets is to ensure efficiency; transparency and fair play, while at the

same time protect the interests of the consumer. The IRDA Act 2000 has laid down the

broad regulatory framework within which insurance companies are expected to operate in

India. The provisions of this Act address issues related to ownership, solvency, investment

portfolio construction, commission structures, reporting formats and accounting standards.

The minimum paid-up equity capital requirement has been set at INR1 billion. The insurance

business is capital intensive, and international experience suggests that, on an average,

non-life insurance companies require four to five years to break even. In the interim, these

companies would require regular capital infusion for funding expected losses and meeting

solvency requirements. In this context, given the existing regulatory constraints of foreign

direct investment by the overseas partner, a substantial part of the funding would have to

be done by the Indian partner, whose financial strength is likely to influence the credit

strength of the joint venture.

Given the evolutionary stage of the Indian insurance industry, one of the focal points for the

regulator has been to ensure stability and solvency of the industry. The Act also lays down

broad guidelines for the construction of the investment portfolios of life insurance

companies. These norms have been designed to ensure that an insurer does not take on

unsustainable risks in deploying funds collected by way of premium. Overall, the regulatory

environment is favorable and one which ensures that players maintain prudent underwriting

standards, and reserve valuation and investment practices. The primary objective for the

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current regulations is to ensure stability and fair play in the market place. Some of the

recent regulatory changes and their impact have been:

New disclosure norms

IRDA has come up with the following disclosure norms:

IRDA has issued disclosure norms for insurance companies, mandating them to

publish accounts on a half-yearly basis. The disclosure norms are seen as a precursor

to allowing insurance companies to hit the primary market. According to the new

norms, insurers will have to publish their balance sheet on half-yearly basis starting

from the period ending 31 March 2010.

Disclosures to be made for a company launching an IPO

All financial disclosures for the past five years prior to the IPO have to be available on

the company website. Insurance companies have to also lay down disclosure of data

on various parameters such as the calculation of economic capital, surrender and

lapse experience of business and expense patterns for a five-year period.

Insurance companies intending to go public would also need to disclose required and

available solvency margins for five years, capital structure and details of investment

performance. A wide range of risk factors related to credit, market, insurance,

liquidity, operational and asset and liability management need to be disclosed clearly

by the insurers, accompanied by a report from an independent external actuary on

the reasonableness of the methodology adopted and assumptions made to

determine valuations.

IRDA has also instructed all life insurers to disclose explicitly, in their benefit

Illustration document, the exact amount of commission/brokerage paid by insurers to

insurance agents. This circular comes into effect from 1 July 2010.

Implication

The regulator has directed all firms to come up with a public disclosure framework to ensure

a fair and stable insurance market. These norms would help investors to be fully aware of

the financial performance, company profile, financial position, the risk exposure, elements of

corporate governance in place and the management of the insurance companies.

The standard on public disclosures for the insurance companies, which has been prepared

out of the best international practices as followed by International Association of

International Supervisors (IAIS), will strengthen the corporate governance and market

discipline.

According to IRDA, the circular on disclosure of agent commission will enhance transparency

by providing prospective policyholders with details of the exact amount of

commission/brokerage paid by insurers to insurance agents, thus making it pro-investor.

However, on the negative side this move may encourage many insurance agents to rebate

commissions to their clients, which is an illegal practice.

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Altered commission structure of agents

Insurers would be allowed to charge up to 4% on annual premium paid on ULIPs for

the first five years, and thereafter charges will be reduced during the tenure of the

policy. This figure narrows down to 3% by the 10th year in a tapered scale, ending

with 2.25% after the 15th year. The new guidelines apply from 1 September 2010.

Earlier, the regulator had allowed commissions charged by agents to not exceed40%.

For single-premium products, the maximum commission rate is 2% of the premium

paid, and for regular premium products, the rate is in the range of 15-30% of

premium in the first year, followed by 5-7% in subsequent years.

As per the draft guideline, all life insurance agents will have to gather a minimum of

INR150,000 as first year premium or sell a minimum of 20 life insurance contracts.

Where an agent falls short of achieving either of the above, they would have to

achieve proportionately more in either one to make up for the shortfall. Where

average annual persistency ratio is less than 50%, the agents license will not be

renewed.

Implication

This move by the IRDA reflects its efforts to ensure transparency and implement more

stringent disclosure norms to avoid mis-selling. This is likely to allow insurers to recover

their cost in a more transparent and informed way, thereby reducing unfair practices

and the information gap in domestic insurance to enhance market discipline. Variation in

the payment structure of agents will also help companies reduce their cost. Tenure-based

commission will definitely benefit the industry. High commission will come down and there

will be better reward for longer-term policies than the shorter-term ones.

The biggest gainers from this change are customers, as products will now be more

transparent, customer-friendly and aimed at protecting the long-term interests of

customers.

With the implementation of the IRDAs new norm, insurance companies may initially face a

setback in policy sale numbers and total premiums. Although the IRDA stance is in favor of

bringing transparency in agents commission structure, this norm could impact agents

negatively, at least in the short run. To address the impact of reduced commission,

insurance companies may resort to innovative ways of compensating their top-performing

agents. Non-commission-based remuneration may increase. Companies may expand their

different reward and recognition programs to make the sale of ULIPs attractive for agents in

light of these recent changes.

In the long run, the role of agents is expected to evolve with this policy change. In future,

increased transparency is likely to make agents more accountable not only in selling right

product, but also in providing better customer service. This is also likely to ensure that

agents justify the commissions they earn. From being mere agents, they will be expected to

serve as financial planners selling a bouquet of financial products.

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IPO norms for insurance company

The insurance regulator has reduced the waiting period for an insurance company to

make an IPO from 10 years to five years after starting operations. Earlier, the

Insurance act required an insurance company to be in the business for a minimum of

10 years before it could seek the regulators approval for listing.

IRDA has finalized its IPO guidelines and has sent them to the Securities and

Exchange Board of India (SEBI). SEBI will club IRDAs recommendations with its

general guidelines on IPOs for any company that wants to raise money from the

public through equity shares.

Norms for correct valuation, disclosure of operating results and profit and loss

account and filing of the draft red herring prospectus are the three essentials that a

company has to fulfill when going for public float. Besides, companies would have to

make financial disclosures, risk disclosures, investment performance etc (details

stated in the above section New Disclosure norms).

Implication

Insurance companies need capital to expand, innovate and sustain in the market. Raising

capital by floating an IPO is highly preferred by insurance companies. There can be a mix of

a fresh issue of shares as well as sale of shares by the parent company. Most companies

prefer this route when they dont have enough capital to plough back into their business.

With the IPO route of raising capital, the Indian promoter will get the opportunity to put its

equity into the market as well as FIIs will also be able to participate and pickup stake.

Promoting health insurance

IRDA has allowed insurance companies to offer 'Health plus Life Combi Product', a

policy that would provide life cover along with health insurance to subscribers. Under

the guidelines issued by the IRDA, the life and non-life insurance firms can cometogether to offer health-plus-life cover. The combi products may be promoted by all

life Insurance and non-life insurance companies, however, a tie up is permitted

between one life insurer and one non-life insurer only. Thus, a life insurer is permitted

to tie up with only one non-life insurer and vice-versa.

The sale of the combi products can be made through direct marketing channels,

brokers and composite individual and corporate agents, common to both insurers.

However, these products are not allowed to be marketed through 'bank referral'

arrangements. The regulator further said the guidelines do not apply to micro

insurance products which are governed by IRDA (Micro Insurance) Regulations, 2005.

Under the Combi Product, underwriting of respective portion of risk shall beunderwritten by respective insurance companies, i.e. life insurance risk shall be

underwritten by a life insurance company and the health insurance portion of risk to

be underwritten by non-life insurance company.

Implication

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Life insurance has a much deeper penetration in India as compared to the non-life insurance

segment. This step is in sync with the governments, regulators and the insurance

companys strategy to cover more people under the insurance umbrella.

As insurers leverage on the marketing and operational network of their partner insurers, the

proposed product innovation is expected to facilitate policy holders to choose an integrated

product of their choice under a single roof without shopping around the market for twodifferent insurance coverages from two different insurers. Therefore, the insurers are

expected to offer the best covers as an attractive proposition for the policyholders.

Alteration in ULIPs

IRDA has attempted to make ULIP a long-term protection contract covering risks related to

mortality, longevity and health, by simultaneously offering a fair deal to the policyholder,

doing away with excesses in the system. Key changes introduced through new guidelines

are as follows:

Lock in period: IRDA has increased the lock-in period for all ULIPs from three years to

five years, including top-up premiums, thereby making them long-term financialinstruments that provide risk protection. All limited premium ULIPs, other than single

premium products, will have a premium paying term of at least five years.

Level paying premiums: All regular premium/limited premium ULIPs will have

uniform/level paying premiums. Any additional payments will be treated as single

premium for the purpose of insurance cover.

Even distribution of charges: Charges on ULIPs are mandated to be evenly distributed

during the lock in period, in order to ensure the elimination of high front ending of

expenses.

Increase in risk component: Further, all ULIPs, other than pension and annuity

products, will provide a mortality cover or a health cover, thereby increasing the risk

cover component in such products.

Cap on surrender charges: IRDA has recommended a cap on surrender charges at up

to 15% of the fund value in the first year for policies of tenor more than 10 years and

12.5% for policies with tenor of less than 10 years. This charge comes down to 5%

and 2.5%, respectively, in the fifth year of the policy and becomes nil for policies of

less than 10 years after the fifth year. For tenors above 10 years, the charge in the

sixth year is 2.5% which becomes nil in the seventh year.

Minimum guaranteed return for pension products: Regarding pension products, all

ULIP pension/annuity products will offer a minimum guaranteed return of 4.5% per

annum, or as specified by the IRDA from time to time. This will provide protection to

the life time savings of pensioners from any adverse fluctuations at the time of

maturity.

Implication

The impact of these new guidelines on customers will be favourable, due to the lower

charges, guaranteed returns, etc. However, these changes will also impact the margins of

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Section III: Critical factors for market development

Distribution channel

The effectiveness and cost of diverse distribution strategies of different players is crucial in

ensuring the success for players in the insurance business, particularly in the retail lines of

business. The low differentiation among retail insurance products suggests the criticality of

distribution reach and efficiency for success in this business.

The factors which determine the choice of distribution channel for an insurance company are

Where are the customers?

What is target customer profile?

Which product (linked, traditional, term etc.) can be sold through distributionchannel?

Which channel provides best buying experience and value to target customer

segment?

What is the operational cost involved in each type of channel?

The customer preferences vary by market segment like geography, age, income, life style

etc, and market characteristics change over time.

Role of intermediaries/distributors/financial advisors

Insurance has to be sold the world over, and the Indian market is no exception. The touch

point with the ultimate customer is the distributor or the producer, and the role played by

them in insurance markets is critical.

Insurance distribution is not simply about pushing products. An outsized share of the value

across the entire insurance industry value chain is added in distribution. For customers, it is

in distribution that needs are understood and assessed, options (from full risk transfer to self

insurance and more exotic methods of managing risk) are identified, and counsel on the

choice of carriers and other providers is given. It is in distribution over which relationships

and trust are built with agents, brokers, and customers, opportunities identified and created,

and products and services sold.

It is the distributor who makes the difference in terms of the quality of advice for choice of

product, servicing of policy post sale and settlement of claims. In the Indian market, with

their distinct cultural and social ethos, these conditions play a major role in shaping the

distribution channels and their effectiveness.

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The figure below provides an estimate of the current market share of the various distribution

channels used by life insurers, and gives a view of how these channels could develop in the

future.

Figure: Current market share and potential market growth

In today's scenario, insurance companies must move from selling insurance to marketing an

essential financial product. The distributors have to become trusted financial advisors for the

clients and trusted business associates for the insurance companies.

The most prominent models of insurance distribution are:

Agents

An insurance agent has to know which product will appeal to the customer, and also know

his competitors products in the same space to be an effective salesman who can sell his

company, the product, and himself to the customer. To the average customer, every newcompany is the same. Life insurance in India has been mostly distributed through an

elaborate network of agents.

Agency force has high gestation period and is more suitable to sell complex risk-based

products. Product market focus on relatively simpler ULIPs makes predominantly agency-

based models relatively expensive.

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Agents are divided into various categories depending on the skills, experience and

productivity. Companies are focusing on identifying training needs and increasing

productivity of agents. The figure below provides features of agents at different levels.

Figure: Tied agency model

Agents are responsible for the reputation of the company they are working for and they also

have their obligations towards their clients. Till now, the following are the basic function

agents perform:

Provide all the necessary application forms.

Submit application forms to the company.

Arrange for all the medical tests and related formalities.

Provide reminders premiums payments and return receipts.

Should help customer make necessary changes in address, nomination etc.

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The bancassurance model functions at various levels, each party having a different level of

agreement. The following diagram explains the various bancassurance models with their

features.

Figure: Bancassurance model

Technological advances are expected to enable new distribution channels, while recent

regulatory changes (banks entry into insurance) are expected to allow cross-selling

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between financial services companies. However, Banc-assurance is expected to gain

considerable popularity.

Increased tie-ups of banks and insurance companies indicate banks selling insurance

products as an opportunity to leverage their extensive branch network, and broaden their

income base to include more fee-based business. Insurers equally see bancassurance as a

low-cost option to expand their distribution network and penetrate into previouslyinaccessible segments of the market.

Other distribution methods

Alternate distribution channels are needed for the following reasons:

To increase insurance penetration in the country.

To differentiate on basis of customer service. To retain and attract new customers to

expand business

To increase insurance awareness and knowledge among people.

To satisfy the needs of more demanding customers.

To improve cost efficiency in insurance distribution.

Private players are exploring several alternatives to reduce the cost of replicating the

distribution network of the public sector insurance companies. While third-party distribution,

as in fast moving consumer goods, is a possibility, the complexity of insurance products,

especially given the low awareness levels, would necessitate direct selling.

One potential channel is marketing through corporate employers, that is, the employers

purchase the product on behalf of the employees or at least co-operate in the marketing

effort. The concept of worksite marketing, i.e. the sale of voluntary insurance products toemployees at the worksite through payroll deduction has become common. Worksite

marketing which was once the realm of a few small companies selling just a few products,

has stretched to big companies offering a number and variety of worksite products.

Brokers and corporate agents form a small part of the distribution system in India. As on 31

March 2010, there were 259 direct brokers, 33 composite brokers and six re-insurance

brokers. Not many large brokers are present in the Indian market at the moment, but

contribution from corporate brokers is likely to increase as many corporate agents are

turning brokers. Global insurance brokers such as Aon, Marsh, Willis and Howden have also

entered the Indian market.

Some products, once they receive a high level of penetration and awareness, can becomecommodities and be sold through more impersonal channels. The use of the Internet to

distribute life insurance products has only emerged recently and has not made a significant

impact so far, partly because of the substantial advisory component of most life insurance

products.

Penetration in rural and semi-urban areas has become the core of distribution strategy of

insurers. As in metros and urban areas, in rural areas also, insurers have targeted the mass-

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affluent segment. Cost of setting up operations in rural/semi-urban areas is far lower

compared with those in metros and urban areas. There is a promising potential of rural and

semi-urban offices with unrelenting expansion in these areas and presence of multiple

insurers may lead to sub-optimal operations.

These distribution networks have reached an unprecedented scale from mobile phone

companies, to microfinance institutions to supermarket chains and churches. Millions ofcustomers who were previously off the grid are now within reach.

Challenges with the existing distribution model

India is arguably one of the most challenging and promising emerging insurance markets. Its

rapidly growing economy coupled with a young and huge population spell ample

opportunities for the development of insurance. However, there is much to be done to

realize this potential. In today's Indian insurance market, the main challenge to insurers and

intermediaries are:

Building faith about the company in the mind of the client

Intermediaries being able to build personal credibility with the clients

Controlling operating expenses by reducing distribution cost

Coping with IRDA norms on their commission

Traditionally tied agents have been the primary channels for insurance distribution in the

Indian market. The public sector insurance companies have their branches in almost all

parts of the country and have attracted local people to become their agents. The agents are

from various segments in society and collectively cover the entire spectrum of the society. A

person who has lived in the locality for many years sells the products of the insurance

company with a local branch nearby. This ensures the last mile touch point being closer to

the customer. Of course, the profile of the people who acted as agents suggests they may

not have been sufficiently knowledgeable about the different products offered, and may not

have sold the best possible product to the client. Nonetheless, the customer trusted the

agent and company. This arrangement worked satisfactorily in the absence of competition.

In today's scenario agents continue as the prime channel for insurance distribution in India,

as is the case in most markets, supported by call centers to a small extent. Almost all the

new players follow this model primarily because the regulations for other channels are yet to

be put in place. However, there is great excitement in the industry over the impending

broker regulations and companies are planning possible channels in their enthusiasm to

increase volumes. The belief that all these channels will grow and seamlessly integrate tobring in business seems a fallacy.

Since controlling expenses has become a challenge and most of these expenses are

incurred on distribution, the issue of efficient cost management is strongly attached to

effective distribution. With the new IRDA regulation on the commission structure,

distributors will earn lower commissions, going forward, and will have to adjust their

business models accordingly. The challenge will be no less for insurance companies. The

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fixed and semi-variable costs in the business are high. With restriction on ability to push the

product, gaining scales will not be easy for all.

A two pronged approach to cost management could be envisaged:

cut commission pay-outs

shift towards variable cost distribution models

For a standalone insurer, achieving this will be a herculean task, requiring potential to

execute low-cost customer capture independent of the distributor. In the absence of product

differentiation, the options available to insurers are limited to:

build low-cost reach which is the most desired and most difficult

generate higher investment yields that may strengthen the sales pitch

build a strong retail brand which will be expensive

Insurance industry in India has seen emergence of large-bank backed insurers. So far, theregulator has allowed banks to enter only into corporate agency tie-ups with insurers.

Hence, banks promoting insurance companies remained tied to their ventures, putting to

question the existence of arms length relationship between the bank and insurance

subsidiary.

What has emerged is a much more difficult and evolving market scene with existing players,

more new players coming in, and global marketing practices and ideas being tested. But

none of this has changed the fundamental character of the market.

Experiences from developed insurance markets worldwide

Globally, various insurance markets are in various stages of development which is also

reflected in their insurance distribution networks. On one hand, the distribution network

comprise primarily agents, given the higher face-to-face interaction required to educate

people about insurance products. Primarily, insurers follow a push strategy to market their

offerings. As the insurance penetration develops, a variety of other distribution channels

comes in the picture to supplement the agency model. However, the types and reach of

different channels is affected by a variety of factors, such as size and potential of insurance

market, geographical scenario, culture, literacy level, complexity levels of the insurance

products, development of information technology infrastructure, and availability of

associated distribution channels.

Other distribution channels, such as independent financial advisors (IFAs), brokers,

bancassurance and electronic channels emerge as the market moves to developing andmature phases. Insurers deploy various channels keeping in mind the complexity of the

products involved and target customer base besides optimizing their distribution cost. Local

rules and regulations also play an important role in deciding the penetration of any

distribution channel. Although the composition of various insurance distribution channels

could vary across different insurance markets, broadly, it moves from being predominantly

an agency model to multi distribution model with a significant role played by IFAs and

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brokers. The following figure explains the evolution of insurance distribution network across

countries.

Figure: Evolution of distribution network

Source: Life Insurance, Edelweiss, 6 August 2010, via Thomson Research

Multiple distribution networks create a range of opportunities for insurers to attract and

serve customers in a differentiated way keeping in mind the customers preferred

combination of product, pricing, service, and channel. It is a way to reach customers that

could not be reached before, and to extract more value from existing customers. It is,

therefore, a powerful lever to increase market and customer access, especially in mature

insurance markets.

Figure: Present state of distribution across geographies

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Source: More than one approach: Alternative insurance distribution models in Asia Pacific, Deloitte, 19 March 2010

The mix of distribution channels is matched by the diversity of the cultural, infrastructural,

and regulatory environments. It is evident that a one size fits all model is not the best

approach. Rather, a multi-pronged approach that factors in country specifics, penetration

rates, and cultural characteristics appears to be the most successful model. Conversely,

market segmentation and the unique needs of customer groups appear to be dictating the

distribution channel used in a specific country.

United Kingdom

Insurance distribution channels have evolved through various phases in the UK. Before

1990s, majority of insurance distribution was undertaken by the direct sales force ofinsurance companies. However, after the implementation of Polarization rules, which

mandated the individuals and companies selling insurance to tie to one company or remain

independent to handle all products across the market, IFAs became a prominent player in

insurance distribution. At present, around 45% of life insurance and 85% of pension business

is done by IFAs in the UK.

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Besides IFAs, there are also tied advisors, which can be grouped under two categories tied

advisors (working for one financial institution) and multi-tied advisors (offering products

from a selection of the market and usually paid on a commission basis). Typically, tied and

multi-tied advisors cater to mass markets and offer simple products whereas independent

IFAs target high net worth customers and offer tailored products.

Further, bancassurance has also emerged as a prominent distribution channel for insuranceproducts. Post depolarization, a variety of bancassurance models emerged in the UK. It has

emerged as an important channel for distribution of simple products, such as ULIPs and

bond products. Bancassurance market share stood at 20.3% in 2006 in the UK.

Another interesting channel that has emerged in the UK is the organized retailers, such as

Tesco, Sainbury and ASDA. They can act as corporate agent or as referral and are among

the largest distributor of insurance products in the UK. Various functions during the policy

cycle are managed between retailer and insurer. This channel can be integrated to agency

channel for better servicing and for establishing one-to-one relationship with customer.

To conclude, in the UK, banks have emerged as preferred channel for distribution of

savings/simple ULIPs; IFAs and banks for pension/retirement products and insurancecompanies/tied agency for risk protection products.

Insurance is a push product. Hence, the role of intermediary is crucial in influencing the

buyer and creating a committed customer base. In insurers value chain, significant value is

generated at the distribution stage. Distribution strength is a key to scalability and

sustainability of the insurance business. Given the nature of product and the emerging

regulatory environment, existing distribution strategy has been challenged.

Going forward, in India, the commission rates are likely to drop impacting the front-line sales

force, corporate agents and brokers. Alternative channels such as bancassurance, e-channels will gain more prominence. The rural/semi-urban distribution strategy will undergo

a change; insurers will focus on top 20 towns over medium term, rather than experimenting

with low per-capita income under-penetrated areas.

Focus on financial inclusion

The approach to insurance must be in tune with the changing times. The mission of the

insurance sector in India should be to extend the insurance coverage over a larger section of

the population and a wider segment of activities.

Around 40% of the population does not have access to organized financial services sector in

India. There is a huge demand for these services in excluded regions where it is difficult to

provide these financial services. Therefore, a large section of the excluded population has to

rely on informal sector (moneylenders etc) for availing finance that is usually at exorbitant

rates.

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Apart from the obvious and apparent benefits of improving living standards, financial

inclusion has a multiplier effect. By increasing the number of people in the umbrella, the

value of the entire national financial system increases. The consequent fuller participation

by all in the financial system makes monetary policy more effective and thus provides a

conducive environment for non-inflationary sustainable economic growth.

Despite a robust growth of 30%-40% in premiums during 2003-2008, per capita insurancepremium is also low due to a large population base and financial exclusion of a large section

of this population. The government has realized the need to increase financial inclusion in

the financial services sector, especially in insurance.

Need to increase financial inclusion in India

Since economic liberalization started in 1990s in India, financial inclusion has been at the

forefront of policy makers to ensure that the benefit of the economic growth percolates

down to the poorest of the poor. Eleventh Five-Year Plan puts special emphasis to promote

more inclusive growth in the financial services sector. The need for delivery of financial

services at an affordable cost to vast sections of disadvantaged and low-income groups is

increasing.

Financial inclusion is likely to increase in the light of limited social security by government

In India, the government provides very limited social security to its citizens as reflected in

the fact that less than 4% of the population is covered under any of the social security

scheme.

Also, the self-employed or those working for small enterprises are exempt from contributing

to the employees provident fund and need to make their own arrangements for savings and

protection cover. The growth of nuclear families in urban locations resulting in the

breakdown of traditional old age support structures also supports this trend.

The diagram below clearly depicts that the government expenditure on public social

protection and he

final draft report_14 sept

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