Captive potential growing in Asia-Pacific

Captive enquiries are increasing in Asia-Pacific, and existing captives are broadening the range of covers they provide. The main domiciles, Singapore and Labuan, are growing, but much-touted Hong Kong is still to take off as a captive centre. Tony Dowding reports

The captive sector globally has seen a surge of interest as the hard market has taken hold. But the captive concept has been a slow burner in Asia compared to Europe and the US. Nevertheless, it would seem Asia-Pacific has seen a recent increase in captive enquiries, according to captive managers.

Stuart Herbert, captive solutions leader, Marsh Asia and Pacific, says: “The level of enquiries we have received in the last year or so has eclipsed those of prior years, and these are much more focused on pressing needs due to the difficult market conditions many are facing. Within the last two years, our Asia-based domiciles have seen significant increases in the numbers of captives being formed, increase in the use of existing captives and additional use of cells within protected cell captives (PCC).”

The reasons are not difficult to find, as Michael Dunckley, director, analytics, AM Best, explains: “High and largely still rising rates for commercial risks are driving corporate risk managers to think harder about how to create cost savings. New captive formations are being driven by an alignment of factors: hardening commercial (re)insurance market, increasing sophistication of risk management at sponsor companies, continued attractive captive domicile jurisdictions, and the assistance of third-party professional captive managers.”

Captive potential realised?
But is the current increase in captive enquiries in the region seeing the captive solution properly taking off in the region or is there still a certain reluctance from corporates in Asia-Pacific. Is it still about potential rather than it being realised currently?

Paul Wöhrmann, head of captive services EMEA, APAC and Latam at Zurich Insurance Group, says: “We believe that while market participants in Asia have a good knowledge of the potential uses of captives and PCC solutions, there is less practical application experience than compared to Europe. Therefore, we try to introduce interested Asian customers to European captive owners and risk managers, who are anchored in the same industry, to exchange experiences. As we maintain an ongoing dialogue with our captive customers, we have already been able to set up several meetings with companies in Asia that are interested in a captive solution.”

Marsh’s Herbert says they are having much more focused and specific conversations, which are leading to additional captive or cells being formed. “As with many markets that are seeing difficult conditions for buyers, the level of interest is increasing as are the discussions and initial explorations. What is gratifying is that these conversations are leading to more actual studies and formations at perhaps a higher rate than in the past. This is due in part to the premiums now costing significantly more than the past and thus the financial benefits of assuming additional risks, along with the ability to manage the changes in coverage terms, are much more tangible to these customers.”

Another captive manager, Alastair Nicoll, regional director, captive management, Asia-Pacific, Aon, notes that Asia-Pacific is relatively immature as a captive market from a global perspective, with several large Asian countries such as India, Indonesia and China having very few captive owners.

“For those corporations that do not own a captive, more of them are considering owning one, as can be seen from the increasing enquiries. However, the preparation time for a new captive is longer in Asia due to additional scrutiny, the internal decision-making processes, the hierarchy structure in family groups and the government ownership that is often involved. Therefore, 2022 may not see many new captive owners,” he says.

Captive usage
Clearly, captive growth and usage is not just about enquiries and new captives. Growth is also being seen in the region in terms of greater use of existing captives, both writing more premium and moving into new lines.

“Over the last 20 years, we have seen European captive customers consistently increase their captive risk participation, and I could see a similar development for Asian companies,” says Wöhrmann. “Strategically, Asian companies will look at captive and PCC projects using similar criteria like the companies in Europe, namely: optimisation of the insurance structure and managing the insurance cycle, access to the reinsurance market and alternative markets, strengthening of the core businesses, managing emerging risks (such as cyber), and an opportunity to manage a holistic view (life and non-life).”

Herbert points to premium increases and lines per captive seeing growth during the last couple of years: “Even within lines, such as liability, we have captives operating at different roles – often it is an ‘increased deductible’ management tool, whereas in the last few years they have also been assisting in completing layers, limiting difficult conditions within specific reinsurers or controlling the overall pricing on a layer.”

Growth in the premiums in the aggregate southeast Asia captive market is being driven by a combination of new captive formation, rate increases and new lines of business being brought into the ambit of existing captives, says AM Best’s Dunckley.

“Some captives do not cover the entire insurance purchase of their sponsors. Pushed by higher international commercial rates, we see captives looking to write risks that might previously have been placed in parallel to the captive. As a result, we see some captives writing new lines of business, which can include liability lines such as D&O, PI and environmental risks,” he says.

He adds: “Many corporates are looking to initiate or increase cyber cover at the same time as we are seeing a higher rate environment for this line of business. As with existing risk portfolios, captives are being used to aggregate, manage and transfer this risk at a whole-enterprise level.”

New risks for captives
Captives in Asia have traditionally focused on property or general liability risks, together with workers compensation and motor, say captive managers, but in recent times, cyber, errors and omissions, professional indemnity and D&O are increasingly featuring in captive feasibility assessments, or being written in captives.

Aon’s Nicoll says an increasing number of captives are writing cyber risks: “With cyber and ransomware attacks increasing, insurers are still in recovery mode and as such, organisations are leveraging captives for short-term relief from increasing cyber insurance price levels.”

Wöhrmann says that currently, captive owners in Asia-Pacific are exploring and underwriting new risks in their captives, such as cyber, supply chain business interruption, catastrophe parametrics and certain financial line extensions. He says that for many companies starting a captive or PCC project, the first objective is to optimise local retentions in the countries where they operate through a reinsurance solution. And he adds that Zurich is also seeing a continuing interest in including employee benefit insurance in captive reinsurance for diversification reasons.

Jason Shum, associate director, analytics at AM Best, says the business written by a captive largely depends on the captive parents’ business activities and business plans, which may vary from one conglomerate to another. But in general, he says captives in Asia have the following considerations:

• Expand coverage in areas which they know well;
• Seek to write and/or retain more profitable risks in their existing portfolios;
• Write more profitable third-party business (such as business partners or employees of the captive parents)
• Support the captive parents’ ESG initiatives (if applicable).

Asia-Pacific domiciles
Asia benefits from two attractive key captive domiciles, Singapore and Labuan, which offer attractive tax environments, and specific solvency treatment for captives, according to AM Best’s Shum, and he sees continued growth in captive establishment in both of these key domiciles, with Labuan in particular seeing a rise in PCCs.

His colleague Dunckley points out that Singapore has extended the period for the scheme under which captives pay a concessionary 10% tax rate until 2025. Additionally, he says, Singapore provides certain grants to captives, which they can use to upgrade their data management capability. He believes this is a signal from Singapore that it is keen to maintain an attractive environment for captives to operate.

As for Labuan, it currently has a formula-based solvency regime, which allows for significantly lower minimum solvency for a captive (MYR0.3m) compared to MYR7.5m for a general insurer. Dunckley explains that the Labuan FSA is moving to a risk-based solvency regime, with guidelines recently announced which indicate that captive insurers will be excluded from the new requirements. This is an indicator that Labuan does not want to add regulatory burdens to captive insurers, says Dunckley.

Hong Kong
Hong Kong has long been touted as a captive domiciles but there has been little recent activity. Over the medium to long term, Best expects the Chinese government’s direction of supporting state-owned companies to set up captives as a risk management vehicle will boost the number of captives in Hong Kong. However, Shum says over the short to medium term, the strict border restrictions between Hong Kong and mainland China due to Covid-19 have hindered the captive establishment in Hong Kong in the last two years.

Hong Kong recently moved into the insurance-linked securities (ILS) space and has attracted markets to base their vehicles in the region, and has introduced a grant scheme to attract ILS capital to Hong Kong. Aon’s Nicoll says this has been effective based on their results but there has not seen a corresponding increase in enquiries from corporations about Hong Kong as a captive domicile.

Marsh’s Herbert adds: “There has not been significant growth in captive numbers at this stage, both from the standpoint of a Chinese sponsorship nor international ownership. This is likely an impact of geopolitical tensions around the world as well as ongoing transformation of Chinese insurance industry, and it will take some time to develop the market further.”

He goes on: “In regards to specific Chinese market focus and use of captives, we saw more organisations starting conversations about this concept internally and externally, especially when their international operation felt the pressure from the hard market or they have difficulty finding sufficient capacity for liability coverage within the Chinese market.”

India
Elsewhere in Asia, there has been some talk of Gujarat International Finance Tec-City (GIFT) in India seeing the development of a captive sector in India.

However, Herbert says that at the moment, there is no change to the published rules of the GIFT that provides any specific framework for captives and it remains focused on insurance and reinsurance of ‘general’ insurers, with restrictions on types of coverage for Indian-‘owned’ insurers.

But he notes: “There has been some activity on the captive front with India-based companies, although at this stage it continues to be very limited. There is considerable built-up interest to utilise these types of vehicles and so, where onshore or offshore, should rules alter to allow the establishment and operational efficiency of captives, then there will be significant growth developed.”

Parametric solutions
Given the nat cat exposures in the region, and the increasing interest in parametric insurance, there has been the suggestion that captives could perhaps be an appropriate vehicle for such covers. However, Herbert says that within the Asia-Pacific region, while Marsh is seeing development of the ILS market, this is being undertaken using special purpose vehicles as opposed to captives, given the desired structure of these deals.

“Whilst demand for parametric insurance is growing, there is limited activity in utilising captives for this. However, like most insurance, in cases where the risk is better understood or markets are unable to provide levels of coverage required, captives are or can be a useful tool in helping manage the cost of risk and risk volatility that organisations are willing to undertake,” he says.

Dunckley says that given the range and severity of weather and earthquake risks in Asia-Pacific, many captives need to secure effective reinsurance to protect against peak losses. “In addition to traditional reinsurance, captives can access parametric reinsurance through the reinsurance market. For some reinsurance purchasers, these solutions have the advantage of being cost-effective, straightforward and providing quick claims settlement.”

But he goes on: “However, we do not see this being widely used amongst captives due to basis risk between the loss pattern of the captive and the claim received from the parametric product in the case of a natural catastrophe event. Captives vary widely in the nature of risks covered. Taking the example of the captive of a multinational company with large physical assets spread worldwide over several cat zones – it might be difficult to find a parametric cover where the claim payment would be close to the insured losses incurred by that organisation. Where this coverage gap exists, the captive may be failing to provide effective risk management to its sponsor corporation.”

ESG role for captives
Another area that is increasingly being discussed in relation to captives is environmental, social and governance (ESG). Many are asking whether there are opportunities for captives to play a role in ESG.

Herbert believes there are: “By their very nature, captives often support the ‘governance’ aspect in that it is a formal, regulated vehicle that has its own governance, solvency and oversight. Being established to protect the organisation against risks, captives will offer the parent organisation a structured way to make informed risk decisions and enhance the implementation of ESG programmes.”

He adds: “Where the market, due to its own restrictions, is unable to provide coverage, captives can step in to provide some degree of support for their parent organisation in assisting to manage these changes, allowing some organisations to manage transition between business models in a controlled manner and affording time to accumulate funds to continue operations.”

Aon’s Nicoll agrees: “With increasing focus on ESG issues, there is a growing need for environmental risk to align with the ESG aspirations of multinational parent companies. Faced with increased pressure from investors, governments, regulators and consumers, organisations must assess their ESG profile and define their ESG strategy, and captives can play a key role here. For example, they can support microinsurance in developing countries as a CSR initiative, while investing captive assets in accredited ESG fund instruments.”

AM Best’s Shum believes there may be opportunities to use captives for ESG initiatives, such as applying alternative strategies to mitigate climate risk (to support eco-friendly projects) and/or to cover some uninsured risks (in which such protection gap might lead to social problems).

“Nonetheless, it ultimately comes down to value, and whether there are appropriate situations for captives to demonstrate their value over traditional insurance,” he says. “Thus, opportunities for captives to play a role in ESG may be subject to whether they can demonstrate significant edge over traditional insurance in covering the parents’ ESG initiatives, or provide protection for activities that might be difficult to insure, or insufficiently covered traditionally.”